Attitudes Toward Risk and Cost Pass-Through Under Uncertainty

23 Pages Posted: 8 Feb 2019 Last revised: 4 Nov 2019

See all articles by Phat V. Luong

Phat V. Luong

SUNY Polytechnic Institute, College of Business Management

Xiaowei Xu

Rutgers Business School

Date Written: January 16, 2019

Abstract

This paper takes into account the difference in risk-aversion of producers to explain their degree of cost pass-through. Each producer can be either risk-neutral or risk-averse, characterized by a CARA utility function. We use our model to explain the surcharge formula in the stainless steel industry, in which American and European producers adopt 100% pass-through but Asian producers commit on zero pass-through. We find that the maximal pass-through differentiation structure arises if one supplier is risk-neutral (e.g., a Chinese state-owned enterprise) but the other is risk-averse (e.g., a domestic private enterprise). Contrarily, if both suppliers are similarly risk-averse (e.g., American vs. European producers), then the pass-through rates stay in the range of 40%-60% at market equilibrium. The presence of a risk-neutral foreign producer is an essential driver for a domestic risk-averse producer to push his pass-through rate toward an extremely high level. We also find that tariff is inefficient to promote the competitiveness of domestic producer.

Keywords: Pricing Differentiation, Risk Aversion, Pass-Through Rates, Surcharge, Stainless Steel, Import Tariff

JEL Classification: F12, F13, F61, D22, L11

Suggested Citation

Luong, Phat V. and Xu, Xiaowei, Attitudes Toward Risk and Cost Pass-Through Under Uncertainty (January 16, 2019). Available at SSRN: https://ssrn.com/abstract=3323421 or http://dx.doi.org/10.2139/ssrn.3323421

Phat V. Luong (Contact Author)

SUNY Polytechnic Institute, College of Business Management ( email )

100 Seymour Rd
Donovan 1101
Utica, NY 13502
United States

Xiaowei Xu

Rutgers Business School ( email )

The State University of New Jersey
1 Washington Park
Newark, NJ 07102-3122
United States
9733535186 (Phone)

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