Divide et impera: Strategic underpricing in privatizations

In several recent initial public offerings in privatization casesshares seemed to be severely underpriced. In this paper weprovide a political economy explanation for this apparentunderpricing. Using a variant of Grossmann and Helpmann's (1996)model of special interest politics, we demonstrate thatgovernments may raise their election chances by rationinginvestors because the resulting broader distribution of sharesmakes regulation that is favorable to the privatized firm morepopular. Somewhat surprisingly, even revenues from theprivatization can be increased through rationing. The model alsoexplains the common practice of bonus systems designed to preventinvestors from taking profits immediately.