Penalty is a crucial approach to maintain society in order in both the legal and the political philosophies. How to establish a rational and efficient penalty mechanism is exceedingly important in practice in economics and politics and this paper explores the optimal mechanism design of penalty. A penalty under monopoly mechanism design theory is established and developed in this piece of work. By establishing the penalty mechanism design model, this paper finds that stricter punishment can efficiently deter violation of the regulations but can decrease the profits of the monopoly firm at the same time. Furthermore, penalty increases the concavity of the monopoly firm’s profit function, which makes it easier for the firm to make decisions and which means strict penalty results in optimal decisions. We also show that punishment is in general costly, which is highly consistent with the phenomena in practice.
Penalty Mechanism design Penalty cost Game theory
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Sincere thanks to the editor and the anonymous reviewers for their beneficial suggestions to improve the presentation.