A Comment on ‘The Measurement of Prices of Production’ by Peter Flaschel,Reiner Franke & Roberto Veneziani

After giving a summary of the Cambridge debate, the comment criticizes the proposal by Flaschel, Franke and Veneziani to base the classical approach on systems of production with unequal rates of profit both theoretically and on empirical grounds: The classical gravitation of market prices towards normal prices is hard to defend, if there are persistent differentials of profit rates, but the profit rate differentials in the paper are not even stable. The comment further defends the idea of representing states of knowledge about technology by means of input-ouput tables against objections regarding the transferability of methods between countries and discusses alternative approaches to the treatment of fixed capital. It is shown that the data used by the authors for capital stocks are not supported by the data of the German Statistical Office. I agree with the authors in the most essential point, however: Contrary to the position taken e.g. by Joan Robinson, we all believe that the problems of capital theory raised in the Cambridge debate must be analyzed not only in abstract theory but also at the applied level. We all were surprised to find that empirical wage curves tend to be close to straight lines so that double intersections of such wage curves, hence reswitching and reverse capital deepening, must be rare. This phenomenon needs to be explained; a possible explanation can be derived from the random nature of the input-output matrices, and, so far, no other explanation has been proposed.     

PRODUCTION FUNCTION ESTIMATION WITH UNOBSERVED INPUT PRICE DISPERSION

We propose a method to consistently estimate production functions in the presence of input price dispersion when intermediate input quantities are not observed. We find that the traditional approach to dealing with unobserved input quantities—using deflated expenditure as a proxy—substantially biases the production estimates. In contrast, our method controls for heterogeneous input prices by exploiting the first‐order conditions of the firm's profit maximization problem and consistently recovers the production function parameters. Using our preferred method, we provide empirical evidence of significant input price dispersion and even wider productivity dispersion than is estimated using proxy methods.     

On technological implications of the wage-profit frontier

This paper examines the equilibrium relation between the wage and profit rates for a technology in which technical parameters vary continuously. It is shown that the existence of a wage-profit frontier implies the existence of functional relationships among the technical parameters. These relationships, called herein characteristic functions, can be expressed in terms of one or more than one independent variable, and it is shown that given certain weak conditions on the functions, only in the former case is reswitching of techniques possible. An inequality is established involving the rates of change, as the profit rate varies, of the technical parameters; it is argued that this inequality can be used to construct functions that order the eligible techniques. Finally, it is argued that the characteristic functions can embody specific, nontechnical relations, so that a “technology” should be broadly interpreted as a collection of techniques of production plus “exogenous” relations that determine which techniques are to be included in the technology.     

Values, prices of production and market prices: some more evidence from the Greek economy

This paper extends the empirical investigation of the relationbetween labour values and different price forms in the caseof the Greek economy. Subjecting the labour theory of valueto empirical tests with data from various countries helps inthe derivation of general conclusions regarding its empiricalvalidity and practical usefulness. Our results on the closenessof values and prices as measured by their absolute deviationand correlation, the shape of the wage–profit curves,the predictive power of labour values over market prices comparedwith other ‘value bases’, and the comparison offundamental Marxian categories when estimated in value and priceterms provide further support for the empirical strength ofthe labour theory of value.     

C.E.S. production functions in the light of the Cambridge critique

The Cambridge debate of the 1960s showed conclusively that the aggregation of capital, so as to obtain a surrogate production function according to Samuelson, is not possible in general, with critical implications also for other variants of neoclassical theory. The framework for the demonstration is that of linear activity analysis.There is an individual wage curve in function of the rate of profit for each technique. If these individual wage curves were straight lines, their envelope would define a wage curve resulting from all techniques, from which a surrogate production function could be derived, but all wage curves are straight only, if there is only one industry. And if wage curves are not straight, phenomena such as reswitching show that essential neoclassical hypotheses need not hold. A recent empirical investigation by Han and Schefold has found one empirical example for reswitching and several for reverse capital deepening.A rigorous derivation of surrogate production functions thus is ruled out also on empirical grounds, but the paradoxes seem not to be as frequent as the critics once thought, so that the question arises whether approximate surrogate production functions could be derived, with individual wage curves which would be sufficiently linear to construct approximate surrogate production functions, indicating a relationship between the intensity of capital and output per head which would be sufficiently precise to work with.The paper is part of a wider investigation, in which conditions for the existence of quasi-linear wage curves and the possibility of the construction of approximate surrogate production functions are given. The emphasis here is on the special hypotheses needed to obtain C.E.S. production functions.     

A note on the organic composition of capital and profit rates

It is widely believed that the rate of profit across industrialsectors, while not in fact uniform as stipulated in the theoryof prices of production, is independent of the sectoral organiccomposition of capital. It follows that the simple labour theoryof value must be systematically in error as a predictor of actualsectoral aggregate prices. We offer empirical evidence fromthe US economy (1987 input–output table) suggesting thatthis is not so: there is a substantial and statistically significantnegative association between organic composition and profitrate across sectors.     

Monetary Expressions of Labour Time and Market Prices: Theory and Evidence from China,Japan and Korea

This article presents estimates of labour values and prices of production following two approaches: the first is based on the classical and Marxian theory of value and distribution; the second on the so-called ‘new solution’ to the ‘transformation problem’ and its variant, the Temporary Single-System Interpretation (TSSI). The major advantage of the latter approach is its simplicity, along with the relatively low data requirements. Our empirical findings from the economies of China, Japan and South Korea suggest that both approaches give estimates of labour values and prices of production which are extremely close to each other as well as to actual market prices. On further examination, however, we conclude that our empirical findings are absolutely consistent with the theoretical requirements of the classical approach and contradict those of the TSSI.     

A mark-up pricing model for price simulations

This paper develops an input/output model of pricing using a mark-up pricing formula. The connection between mark-up pricing and competitive pricing is analyzed through the determination of sectoral equilibrium profit mark-up rates as a function of the profit rate and the capital intensity of each sector. The model is used to analyze the effects on relative prices and the aggregate price level of exogenous changes in the nominal wage rate, tax rates, the exchange rate and world prices. Exogenous changes in the prices of domestically produced commodities are modelled via the imposition of ad valorem tax rates, which yield a measure of the net effect of the exogenous changes. Simulations are carried out under passive price adjustment as well as adjustment with price ceilings. In this last instance the model calculates the endogenously determined reduction in profit mark-ups. Lastly, empirical results of various simulations are presented using data from the Mexican economy.     

The determinants of privatization prices: evidence from Turkey

This paper analyses the determinants of privatization prices in a multi-industry study using a sample of 68 recently privatized firms from Turkey. Results show that revenue and market characteristics are significant determinants of privatization prices while current cost and profit indicators are not. It is argued that potential buyers regard these state firms as inefficient, therefore do not take into consideration their current costs and profits in determining their value. When the dependent variable is altered by dividing the firm's privatization price by the firm's sales (revenues), it is found that sales-adjusted privatization prices are responsive to firms profit margins. However, this result does not hold when the sample is restricted to a single industry. Profit margins along with other profitability and firm efficiency measures are no longer significant determinants of sales-adjusted privatization prices in the cement industry analysis. Unexploited production opportunities measured by capacity utilization ratios, and complete private ownership resume a more important role.     

Price–value deviations: further evidence from input–output data of Japan

This paper subjects to empirical testing the labour theory of value using input–output data from the economy of Japan for the years 1970, 1975, 1980, 1985 and 1990. The results of the analysis show that labour values and prices of production are extremely good approximations to market prices. In fact, the proximity of prices of production to market prices is closer than that of labour values, a result which suggests that prices of production constitute more concrete centres of gravitation for market prices. Furthermore, we find that prices of production change as a result of variations in income distribution more often than not in a monotonic way and that in fewer cases they display curvatures, which may even reverse the order between prices of production and values.     

Measuring efficiency when competitive prices aggregate differences in product quality and risk

In perfectly competitive markets with homogenous goods, prices aggregate inputs and outputs into a money metric that allows production plans and, hence, firms to be ranked by their profitability. Standard techniques of efficiency measurement use this metric to estimate cost and profit frontiers that identify “best-practice” production, conditioned on these exogenous prices. However, when prices vary due to differences among firms in the quality of outputs and inputs and in how asymmetric informational problems are resolved, both quality and the production of information can be decision variables of the firm, and prices will have endogenous components linked to production decisions. For example, in banking, prices of financial inputs and outputs are linked to credit quality and, hence, to risk and, thus, aggregate both inputs and outputs and their risk characteristics as well as reflect how informational asymmetries in credit markets are ameliorated. This paper argues that these cases pose two serious problems for the standard techniques of efficiency measurement: (1) they underestimate inefficiency because, in conditioning on prices, they fail to account for the effects of suboptimal pricing strategies on profitability; and (2) in ignoring how production plans and pricing strategies affect market-priced risk, the standard techniques neglect the effects of different pricing strategies on the discount rate, on expected profit and, hence, on market value. Two alternative techniques that do not condition their frontiers on prices and that account for risk are described to show how they measure the efficiency of different pricing strategies as well as production plans. These two alternative models for measuring efficiency are employed to study how differences in pricing strategies affect the efficiency and market value of highest-level bank holding companies in the United States in 1994.     

How to measure competition in an economy in transition

This paper attempts to find a robust method of measuring competition when firms' operational activities are subject to frictions. The first part theoretically tests the indicative quality of two competition measures, the price‐cost margin (PCM) and the profit elasticity, in a model of monopolistic competition. The second part studies the empirical performance of the indices for a panel of Ukrainian manufacturing firms. This study offers a new approach to measuring profit elasticity that relies on structural estimation of a production function. The estimation methodology retrieves a productivity index that is adjusted to imperfect competition. The proposed method of measuring profit elasticity is found to be robust to frictions, but the PCM and traditional profit elasticity are biased, especially when the intensity of competition is low. Empirical findings show that competition exhibits a significantly positive correlation with aggregate productivity performance, while its impact on firm productivity is nonlinear.     

Strategic decisions on bilateral bidding behavior: evidence from a wholesale electricity market

This article analyzes the strategic bilateral bidding behavior in the Spanish electricity wholesale market (OMEL). The collection of data includes information regarding weekly averages of spot prices, the quantity bid in the wholesale market, the quantities purchased in the wholesale market and sold in the open market, and the behavior of conduct parameters for the period from January 2002 to April 2007 for the four largest firms of the Spanish electricity market: Endesa, Iberdrola, Unión Fenosa and Hidrocantábrico. This article employs the New Empirical Industrial Organization approach. The empirical analysis was based on the autoregressive distributed lag approach to cointegration and on the Toda–Yamamoto Granger causality tests to validate the standard version of the theoretical formulation of the standard Cournot model, and its theoretical extension, to encompass the hypothesis of the presence of bid interdependence for electricity quantities sold and bought in the Spanish electricity wholesale market. The results of cointegration and causality analysis reinforce the empirical results of the extended Cournot model with the inclusion of the two main bidding variables that solved the optimization problem of profit maximization for each of the four firms analyzed.     

Estimating the effect of monopsony power on elasticity estimates

Love and Shumway (1994) developed a nonparametric deterministic test for monopsony market power using a normalized quadratic restricted cost function with one input for which the firm has potential market power. This research examines monopsony power using Lau’s Hessian identity relationships based on the empirical properties of duality theory. Lau’s Hessian identity shows the Hessian matrices are equal under pure competition using an unrestricted profit function, restricted profit function and production function approach. We examine how market power changes in the monopsony case using Lau’s Hessian identity relationships. Results show that there is a difference between the unrestricted and restricted profit function results under monopsony power. The important implication is that if an input or output is potentially in a market subject to market power, that input or output should be modelled as a fixed input or output to correctly recover the underlying technology.     

Pass-through and Export Prices: an empirical test for the leading European countries

The paper presents an empirical investigation of the extent to which exchange rate movements affect export prices in the leading European countries. By extending the model proposed by Kasa (1992) to a context of monopolistic competition, an export price equation has been derived that allows us to clearly identify the effects of nominal exchange rate movements on the exporters' profit margins and therefore on his prices. This equation has then been estimated with reference to five different products (beer, car tyres, truck tyres, aluminium foil and cars) and six markets (United States, Germany, France, Italy, United Kingdom and Spain). The results show that the pass-through is more likely to occur and larger in absolute value for the less differentiated products, for which markets can plausibly be assumed to be more competitive. In line with previous empirical findings, the German and US markets are the ones in which it is most difficult for exporters to modify their prices expressed in local currency.     

Is the Engel curve approach viable in the estimation of alternative PPPs?

Conventional estimates of purchasing power parities (PPP) rely on cross-country price data. Using Engel curves, Almås (Am Econ Rev 102:1093–1117, 2012) was, however, able to show that PPPs contain substantial bias. Since constructing conventional estimates is expensive and time consuming, Almås’ idea of employing Engel curves is welcome. This article examines the viability of the Engel curve approach to PPP and its sensitivity to differences in relative prices and preferences by estimating Engel curves not only between countries but also for regions within a given country. My empirical evidence from the United States and Norway suggests that the differences can be problematic, but not sufficiently to discredit the new methodology. A pragmatic approach to PPP estimation between countries that are different is to compute a PPP band, rather than a point estimate. I present a practical example of this using expenditure data from 2001, which yields a band for NOK and US dollar.     

Grants and cost shifting in outpatient clinics

Cost shifting for a non-profit, revenue maximizing healthcare provider which faces a constraint that profit must be non-negative is examined, focusing on fixed payment programmes like Medicare. In addition, how grant money affects cost shifting and extend the empirical analysis of cost shifting to outpatient clinics, using data from publicly funded clinics in California is explored. The results are consistent with cost shifting, and indicate that the cause may be that the Medicare payment system cuts revenues more than costs, forcing clinics to subsidize the care of Medicare patients by increasing prices to other patients.     

Controling tax evasion under direct and indirect taxation: Some notes

The purpose of the paper is to use a simple model of the firm having monopoly power in the goods market as the framework to study the relative effectiveness of unit, ad valorem and profit taxes under two alternative criteria when the taxes are changeds so as to keep either the expected utility of the monopoly firm or the expected tax revenues for government constant. Under the former policy the profit tax turns out to be best and the unit tax worst in all respects; for instance, the profit tax will give rise to higher production, lower prices, lower tax evasion and higher tax revenues for government than other taxes. The dominance of the profit tax and the inferiority of the unit tax still holds under the policy of keeping the expected tax revenues constant in terms of production, prices and the expected utility of the monopoly firm. But strikingly, in terms of effectiveness of tax evasion control the ranking of taxes is now exactly the reverse from the one obtained under the expected utility criterium; now the unit tax is best and the profit tax worst.     

Tooke's approach to explaining prices

This paper examines the method of analysis and theoretical approach Thomas Tooke (1774–1858) employed in his empirical study of English prices. It is shown that Tooke adopted the “long period method” formulated by Adam Smith to analyse a capitalist society. It is shown that like most nineteenth-century classical economists, Tooke adopted a modified version of Adam Smith's “adding-up” approach to normal prices and distribution which incoporated Ricardo's theory of rent. The paper shows that based on this approach, Tooke explained short-run fluctuations in prices be reference to factors that disrupted the adjustment of supply to the “effectual” demand for commodities.