Working Paper: CEPR ID: DP6275
Authors: Jan Boone; Jan C. van Ours; Henry van der Wiel
Abstract: We introduce a new measure of competition: the elasticity of a firm's profits with respect to its cost level. A higher value of this profit elasticity (PE) signals more intense competition. Using firm-level data we compare PE with the most popular competition measures such as the price cost margin (PCM). We show that PE and PCM are highly correlated on average. However, PCM tends to misrepresent the development of competition over time in markets with few firms and high concentration, i.e. in markets with high policy relevance. So, just when it is needed the most PCM fails whereas PE does not. From this we conclude that PE is a more reliable measure of competition.
Keywords: competition; concentration; measures of competition; price-cost margin; profit elasticity; profits
JEL Codes: D43; L13
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| profit elasticity (pe) (D22) | competition intensity (L13) |
| competition intensity (L13) | profit elasticity (pe) (D22) |
| marginal costs (D40) | profits (L21) |
| competition intensity (L13) | profits (L21) |
| profit elasticity (pe) (D22) | price-cost margin (pcm) (D40) |
| profit elasticity (pe) (D22) | concentration index (h) (D30) |
| market concentration (L11) | profit elasticity (pe) (D22) |
| firm efficiency (D22) | profit elasticity (pe) (D22) |
| profit elasticity (pe) (D22) | labor income share (E25) |
| profit elasticity (pe) (D22) | import penetration (K24) |