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Incorporating Flexible Demand Systems in Empirical Models of Market Power

  • Peterson, Everett B.
  • Cotterill, Ronald W.

Measuring the degree of price coordination between firms in a differentiated products industry is particularly challenging because it is necessary to utilize a demand system that is sufficiently flexible, allows the imposition of theoretical restrictions, and allow for the derivation of the functional form of the corresponding price reaction functions. Previous research has relied on restrictive demand systems in order to maintain the tractability of the price reaction functions. The purpose of this paper is determine whether using more flexible demand systems can yield a set of first-order profit maximization conditions that are mathematically tractable and amendable to estimation. The demand systems considered are the Almost Ideal Demand System (AIDS), the Linear Approximate Almost Ideal Demand System (LAIDS), and the Rotterdam demand system. This paper also expands prior work on estimating brand level demand elasticities by endogenizing category level expenditures in the context of a weakly separable demand system. This yields some new and interesting insights for the measurement of market power in differentiated product industries. We show that while it is not possible to derive explicit price reaction functions for any of these demand systems, given certain assumptions, the Rotterdam demand system does yield an explicit set of profit maximization first-order conditions that can be estimated.

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Paper provided by University of Connecticut, Food Marketing Policy Center in its series Research Reports with number 25159.

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Date of creation: 1998
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Handle: RePEc:ags:uconnr:25159
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  1. Connor, John M. & Peterson, Everett B., 1991. "Market-Structure Determinants Of National Brand-Private Label Price Differences Of Manufactured Food Products," Working Papers 116099, Regional Research Project NE-165 Private Strategies, Public Policies, and Food System Performance.
  2. Cotterill, Ronald W. & Putsis, William P., Jr. & Dhar, Ravi, 1999. "Assessing the Competitive Interaction Between Private Labels and National Brands," Research Reports 25177, University of Connecticut, Food Marketing Policy Center.
  3. Chalfant, James A, 1987. "A Globally Flexible, Almost Ideal Demand System," Journal of Business & Economic Statistics, American Statistical Association, vol. 5(2), pages 233-42, April.
  4. Golan, Amos & Judge, George G. & Miller, Douglas, 1996. "Maximum Entropy Econometrics," Staff General Research Papers 1488, Iowa State University, Department of Economics.
  5. Brown, Mark G. & Behr, Robert M. & Lee, Jonq-Ying, 1994. "Conditional Demand And Endogeneity? A Case Study Of Demand For Juice Products," Journal of Agricultural and Resource Economics, Western Agricultural Economics Association, vol. 19(01), July.
  6. Raymond Deneckere & Carl Davidson, 1985. "Incentives to Form Coalitions with Bertrand Competition," RAND Journal of Economics, The RAND Corporation, vol. 16(4), pages 473-486, Winter.
  7. Jerry A. Hausman, 1996. "Valuation of New Goods under Perfect and Imperfect Competition," NBER Chapters, in: The Economics of New Goods, pages 207-248 National Bureau of Economic Research, Inc.
  8. Lawrence E. Haller & Ronald W. Cotterill, 1996. "Evaluating Traditional Share-Price and Residual Demand Measures of Market Power in the Catsup Industry," Food Marketing Policy Center Research Reports 031, University of Connecticut, Department of Agricultural and Resource Economics, Charles J. Zwick Center for Food and Resource Policy.
  9. LaFrance, Jeffrey T., 1991. "When Is Expenditure "Exogenous" In Separable Demand Models?," Western Journal of Agricultural Economics, Western Agricultural Economics Association, vol. 16(01), July.
  10. Capps, Oral, Jr. & Tsai, Reyfong & Kirby, Raymond & Williams, Gary W., 1994. "A Comparison Of Demands For Meat Products In The Pacific Rim Region," Journal of Agricultural and Resource Economics, Western Agricultural Economics Association, vol. 19(01), July.
  11. Frank Asche & Cathy R. Wessells, 1997. "On Price Indices in the Almost Ideal Demand System," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 79(4), pages 1182-1185.
  12. Deaton, Angus S & Muellbauer, John, 1980. "An Almost Ideal Demand System," American Economic Review, American Economic Association, vol. 70(3), pages 312-26, June.
  13. Moschini, GianCarlo, 1995. "Units of Measurement and the 'Stone Index' In Demand System Estimation," Staff General Research Papers 5058, Iowa State University, Department of Economics.
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