Research Discussion Papers, Bank of Finland
No 30/1996:
Markups and Measurement Errors in Six EU Countries
Pentti Forsman ()
, Tuomas Saarenheimo ()
and Marko Terviö ()
Abstract: This study of markups, ie prices over marginal costs in
manufacturing industries, builds on the work of Robert Hall and Werner
Roeger. We analyze several methods used in estimating sectoral markups, and
then apply them to empirical analysis of the industrial sectors of six EU
countries (Germany, France, Italy, the UK, Sweden and Finland). We argue
that measurement errors in the model variables, particularly in the rental
price of capital, are likely to be a major problem in markup estimation,
and show that due to measurement errors, the approach developed by Roeger
is likely to produce markup estimates with an upward bias. Such biased
results are particularly deceiving since the outcome tends to produce
artificially good fits, high t-values, and markup estimates which are
"sensible" in magnitude. We also introduce a "modified" model for markup
estimation, which would, if all assumptions were fulfilled and variables
correctly measured, yield results identical to those obtained with Roeger's
model. Yet, in contrast to Roeger's model, in the presence of measurement
errors the markup estimates produced by this model have downward bias.
Comparison of these two sets of estimates enables us to assess the
seriousness of the measurement problem. We found that the estimates
produced by the two models differed in a systematic fashion which is
symptomatic of measurement errors. All in all, our results provide strong
support for our hypothesis that the markup estimates obtained with Roeger's
method are likely to be artifacts created by measurement errors mainly in
the rental price of capital.
Keywords: markup; imperfect competition; (follow links to similar papers)
30 pages, December 20, 1996
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