Price transmission in vertically-related markets
The thesis aims to contribute to the literature on two fronts. Firstly, it aims to contribute to the literature by developing a conjectural variations model of price transmission in vertically related markets where the final product sector exercises both oligopoly power and oligopsony power. It finds that oligopoly and oligopsony power do not necessarily weaken the degree of price transmission relative to that under perfectly competitive markets although they can. The key to these outcomes is to be found in the functional forms for retail demand and farm supply. Secondly, it attempts to draw inferences about the conditions under which the prices of the farm and retail prices cointegrate by themselves based on the predictions of the existing theoretical models of vertical price transmission. It then evaluates whether these conditions are borne out empirically. To this end, it tests for the existence of a co-integrating relation between the raw input and retail prices for a sample of 11 food and energy markets in the UK using the Johansen Full-information Maximum Likelihood Procedure. It finds that a co-integrating relation is identified for only 4 out of 11 price pairs; i.e., for potato, fresh fruits, milk and oil. For all other price pairs, it is not identified unless the cointegration regression allows for sector shocks. This result seems to support our theoretical prediction that, given information provided by a price pair alone, co-integration can be observed only for products for which the cost share of the farm input is unity; i.e., for products with a constant margin. And obviously, potatoes, fresh fruits and milk are products which are sold in supermarkets as they appear in their raw form with minimum processing involved suggesting that the share of processing cost for these products is minimal.