Do manufacturing firms react to energy prices? Evidence from Italy

The reaction of energy demand to price changes is a key policy issue as it describes the economy's reaction to changes in market conditions or to policy interventions. The issue is even more important for the Italian economy, highly exposed to energy price changes, given its almost complete fossil fuel-related energy dependence, environmental sensitivity and highly fragmented industrial structure. Besides the policy issue, there is also an important methodological debate, concerning the best way to evaluate energy demand elasticities, looking at alternative models, data and elasticity definitions. After a discussion of the main methodological issues, this paper presents an estimation of demand elasticities (by factors and by fuels) for Italian industrial firms, by using a microeconomic panel in a two-stage translog model. By using cross-price and Morishima elasticities, we derive information on the magnitude and asymmetry of firms’ reaction to price changes. Moreover, the use of the micro-dataset enables the highly heterogeneous Italian industrial sector to be considered: results are discussed according to sector and firm dimension. These estimations constitute an important cornerstone of energy demand by Italian industrial firms, given that empirical literature is particularly rare on the Italian case study.