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Rising Marginal Costs, Rising Prices?

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  • Joel Kariel
  • Anthony Savagar

Abstract

We present empirical evidence on the relationship between demand shocks and price changes, conditional on returns to scale. We find that in industries with decreasing returns to scale, demand increases (which raise costs) correspond to price increases. Whereas, in industries with increasing returns to scale, demand increases (which lower costs) correspond to stable prices. We interpret the results with a theory of imperfect competition and returns to scale. For prices to remain stable following a cost decrease, markups necessarily rise. For prices to increase as cost increases, it is not necessary for markups to change but does not preclude their role. From a macroeconomic perspective, our results imply that inflation dynamics and the effectiveness of monetary policy depend on market structures.

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  • Joel Kariel & Anthony Savagar, 2025. "Rising Marginal Costs, Rising Prices?," Papers 2502.05898, arXiv.org.
    • Handle: RePEc:arx:papers:2502.05898
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    References listed on IDEAS

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    1. Joel Kariel & Anthony Savagar, 2024. "Scale Economies and Aggregate Productivity," Papers 2411.18461, arXiv.org.
    2. Peter Davis & Eliana Garcés, 2009. "Quantitative Techniques for Competition and Antitrust Analysis," Economics Books, Princeton University Press, edition 1, number 9078.
    3. Daniel A. Ackerberg & Kevin Caves & Garth Frazer, 2015. "Identification Properties of Recent Production Function Estimators," Econometrica, Econometric Society, vol. 83, pages 2411-2451, November.
    4. Richard Blundell & Stephen Bond, 2000. "GMM Estimation with persistent panel data: an application to production functions," Econometric Reviews, Taylor & Francis Journals, vol. 19(3), pages 321-340.
    5. Chad Syverson, 2019. "Macroeconomics and Market Power: Context, Implications, and Open Questions," Journal of Economic Perspectives, American Economic Association, vol. 33(3), pages 23-43, Summer.
    6. Smirnyagin, Vladimir, 2023. "Returns to scale, firm entry, and the business cycle," Journal of Monetary Economics, Elsevier, vol. 134(C), pages 118-134.
    7. Amit Gandhi & Salvador Navarro & David A. Rivers, 2020. "On the Identification of Gross Output Production Functions," Journal of Political Economy, University of Chicago Press, vol. 128(8), pages 2973-3016.
    8. James Levinsohn & Amil Petrin, 2003. "Estimating Production Functions Using Inputs to Control for Unobservables," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 70(2), pages 317-341.
    9. Hall, Robert E, 1988. "The Relation between Price and Marginal Cost in U.S. Industry," Journal of Political Economy, University of Chicago Press, vol. 96(5), pages 921-947, October.
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