34 Pages Posted: 10 Sep 2012 Last revised: 22 Nov 2016
Date Written: April 12, 2016
This paper compares the implications of having constant versus variable markups on the Law of One Price (LOP) by decomposing the good-category level prices into marginal costs of production, markups, and trade costs. Using a trade model, it is shown that the case of constant markups corresponds to log-linear trade regressions, while the case of variable markups corresponds to lin-log trade regressions. Empirical results show that marginal costs of production contribute most to the deviations from LOP for both cases of constant and variable markups; the decomposition of marginal costs further shows that destination-specific quality measures play the biggest role.
Keywords: Functional Separability, Variable Markups, Trade Costs, Price Elasticity of Demand, Income Elasticity of Demand
JEL Classification: F12, F13, F14
Suggested Citation: Suggested Citation
Yilmazkuday, Hakan, Constant versus Variable Markups: Implications for the Law of One Price (April 12, 2016). International Review of Economics & Finance, Forthcoming. Available at SSRN: https://ssrn.com/abstract=2144037 or http://dx.doi.org/10.2139/ssrn.2144037