Regulating complementary input supply: production cost correlation and limited liability

We study the optimal regulation of complementary input supply. The regulator chooses for either a monopolist producing two complementary inputs in fixed proportion, or two independent firms producing one input each. Under independent input supply, nonmonotonic regulatory schemes become optimal for high correlation between input production costs. The optimal regulatory choice depends on the correlation between costs, and on the producers. liability structure. Under limited liability monopolistic input supply gives a higher expected welfare whenever the correlation coefficient is sufficiently small and positive. For higher correlation independent input supply is chosen, and the regulatory scheme is non-monotonic in total costs.