The Law of One Price under State-Dependent Policy Intervention: An Application to the Ukrainian Wheat Market
AbstractThis paper investigates the effects of state-dependent policy interventions on price transmission. Our empirical application focuses on price linkages between the Ukrainian wheat price and the world price. The empirical analysis is based on the smooth transition conintegrating (STC) framework and follows the general procedures used to investigate long-run equilibrium and short-run error correction. The results indicate that there is regime-switching behavior in the long-run relationship between the Ukrainian and world markets, conditional on the world price. When the world price of wheat is below the threshold of $185/ton, the transmission elasticity of domestic price with respect to the world price approaches unity. However when the world price is above the threshold level, the transmission elasticity drops to 0.7. Finally, we also find that adjustments toward the long-run equilibrium take place through changes in Ukrainian domestic price alone. Our results suggest that the Ukrainian wheat market is well integrated into the world market. However, government intervention can cause significant long-term losses for Ukrainian producers.
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