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The Cyclical Behavior of the Price-Cost Markup

  • Christopher J. Nekarda
  • Valerie A. Ramey

A countercyclical markup of price over marginal cost is the key transmission mechanism for demand shocks in textbook New Keynesian (NK) models. This paper re-examines the foundation of those models. We study the cyclicality of markups in the private economy as well as in detailed manufacturing industries. First, we show that frameworks for measuring markups that have produced the strongest evidence for countercyclicality produce the opposite result when we substitute new methods and data. Second, because the NK model's predictions differ by the nature of the shock, we present evidence on the cyclicality of the markup conditional on various types of shocks. Consistent with the NK model, we find that markups are procyclical conditional on a technology shock. However, we find that they are either procyclical or acyclical conditional on demand shocks. Thus, the textbook NK explanation for the effects of government spending or monetary policy is not supported by the behavior of the markup.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 19099.

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Date of creation: Jun 2013
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Handle: RePEc:nbr:nberwo:19099
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