Separation of Regulatory Powers when Contracts are Incomplete

The investment of a regulated firm affects the service/good provided on many dimensions. Should an integrated regulator take care of them all? Or is it better to have separate regulators responsible for them? We analyze the effect of the separation of regulatory powers on the regulated firm's ex-ante incentive to invest in a "cooperative'' innovation. The effects of the innovation are not verifiable and the cost of investing is sunk, hence, there is a problem of hold-up. We find that when the innovation produces opposite effects the ex-ante firm's incentive to invest is larger in the case of separation than in the case of integrated regulation. We also stress the risk of over-investment that the separation of regulatory powers may induce. We maintain that along with classical incentive regulation --- which mainly provides incentives for the firm to be efficient --- the separation of regulatory powers may play a role in providing an incentive for cooperative innovations.