Uleac economic integration price transmission and consumer welfare

Outline
Price Transmission
Assessing the Impact on Consumer Welfare
Application to Lebanon
Economic Integration, Price Transmission, and
Consumer Welfare. Lessons Learned and
Policy Reforms
Alban Thomas1
1Toulouse School of Economics
Lebanese Economic Association, Beirut, May 9, 2011
Alban THOMAS Economic Integration, Price Transmission, and Consumer We

Outline
Price Transmission
Introduction
Background: Growing concern regarding
Increasing and more volatile commodity prices
Dependence upon imported energy sources
Combination of high unemployment level and rising inflation
Countries with subsidy policies (consumption, energy):
less and less sustainable public deficit
Need to maintain local firms’ profitability and protect
consumer welfare

Outline
Price Transmission
Introduction
This presentation:
Some aspects of price vulnerability and consumer welfare
Price transmission through international trade (imports)
and exchange rate
Examples: Viˆet-Nam and India
Impact on consumer welfare
Example: Egyptian food policy
Application to Lebanon: price transmission and import
substitution

Outline
Price Transmission
Outline I
1 Price Transmission
Empirical Methods
Example: Vietnam
Exchange-rate pass-through
Exchange-rate pass-through: The example of India
2 Assessing the Impact on Consumer Welfare
The AIDS Model Applied to Rationed Demand
The Egyptian food policy
The Mixed Demand Model
3 Application to Lebanon
Price Transmission
Import substitution

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Price Transmission
Market structure
Exports
Exchange Rate
Imports Wholesale market structure
Retail market

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Price Transmission
Assumptions often made for small countries:
World prices are ﬁxed (given)
Perfect transmission of world prices to border prices
Domestic prices are driven by world prices, exchange rates,
tariffs, and transaction costs
Price transmission may be affected by
Transportation and transaction costs
Imperfect exchange-rate pass-through
Product differentiation
Border (and domestic) price policies

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Price Transmission
Examples of failure of full-price transmission:
Transportation costs may be
Non-stationary
Fixed, not proportional to traded quantities
Multiplicative, not additive (between each other)
Incomplete exchange-rate pass-through:
Pricing-to-market exporter strategy (to stabilize ﬁnal price)
Shifts in marginal costs
Price policies
Variable tariffs as stabilization policy
Non-tariff barriers (sanitary, quotas)
Domestic price-support policies

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Empirical Methods
Time-series modeling: comparison between world and
domestic prices
Testing for convergence with dynamic models
Consider
PD
t = µ + β1PW
t + β2PD
t−1 + ut ,
where
PD
t : domestic price level,
PW
t : world price level,
ut : error term.
Error correction model: account for world-domestic price
gap
εt = PD
t − α − βPW
t

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Empirical Methods
Combining both equations and taking ﬁrst differences
yields:
∆PD
t = α + γ(PD
t − α − βPW
t ) + θ∆PW
t + ut ,
⇔ ∆PD
t = α + γεt + θ∆PW
t + ut ,
where ∆PD
t = PD
t − PD
t−1.
Interpretation of parameters:
β: cointegration coefﬁcient, measures long-term
relationship between PD
t and PW
t
γ: speed of adjustment (towards long-run equilibrium)
θ: intensity of price transmission
Test: convergence if γ = 0.

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Empirical Methods
Including exchange rate and tariffs
PD
kt = eN
t × PW
kt × (1 + Tkt ) × (1 + τkt )
where
PD
kt domestic price, sector k,
PW
kt : world price (in foreign currency), sector k,
eN
t : nominal exchange rate (local currency per unit of
foreign currency),
Tkt : ad valorem tariff for sector k,
τkt : transportation and transaction costs for sector k.
We need to construct the tariff-inclusive world price
measured in local currency

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Empirical Methods
Deﬁne CPIH
t and CPIF
t : consumer price indices in local
and foreign countries
The real exchange rate at time t is then
eR
t = eN
t ×
CPIF
t
CPIH
t
and the tariff-inclusive world price measured in local
currency is
˜PW
kt = eR
t ×
CPIH
t
CPIF
t
× PW
kt × (1 + Tkt )
⇔ PD
kt = PW
kt × (1 + τkt ) .

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Empirical Methods
Estimation and testing
Model I: Levels, log-log
log PD
kt = µk + θk log ˜PW
kt + εkt
Model II: Levels, log-log, with domestic inﬂation
log PD
kt = µk + θk log ˜PW
kt + αk log CPIH
t + εkt
Model III: First-difference, error correction model
∆PD
kt = µk + γk (˜PW
k,t−1 − PD
k,t−1) + θk ∆˜PW
kt + εkt
Model IV: First-difference, error correction model with
inﬂation
∆PD
kt = µk + γk (˜PW
k,t−1 − PD
k,t−1) + θk ∆˜PW
kt + αk ∆CPIH
t + εkt

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Empirical Methods
Parameter θk : elasticity of price transmission
by construction in log-log models
in first-difference models if base-year levels used in
computations (base 100)
Parameter γk : speed of adjustment to long-run equilibrium
in sector k
Parameter αk : degree of inflation pass-through in sector k
Hypothesis testing
Law of One Price (LOP, co-movement between domestic
and world prices):
θk = 1.
Neutral inflation pass-through:
θk + αk = 1 ⇔ (θk = 0, αk = 1) or (θk = 1, αk = 0)

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Example: Viêt-nam
Abbott, P., C. Wu and F. Tarp, 2011. Transmission of World
prices to the Domestic Market in Vietnam. Working paper,
Purdue University.
Period: 1999 to 2008
Sector-specific regressions, for 87 sectors
Classification of sectors into
Integrated if θk significantly = 0 and = 1
Segmented if θk significantly = 1 and = 0
Neutral inflation pass-through if θk + αk = 1
Convergence of domestic prices to world prices (significant
speed of adjustment) if γk = 0.

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Example: Viˆet-nam
Integrated sectors Integrated sectors
Sector θk Sector θk
Tea, processed 0.84 Rice, processed -0.22
Other crops 0.78 Fish -0.08
Sugar, reﬁned 3.50 Coffee beans -0.10
Vegetables, animal fat 1.64 Processed fruits -0.24
Wood products 1.08 Poultry 0.08
Machinery 0.61 Milk, dairy -0.16
Cement 0.74 Leather goods -0.99
Organic chemicals 0.78 Bicycles -0.13
Plastic products 0.72 Electrical machinery -1.04
Automobiles 3.63 Cigarettes, tobacco 0.00

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Example: Viêt-nam
Neutral inflation pass-through Non-neutral inflation pass-through
Sector αk Sector αk
Rice, processed 1.97 Confectionery, chocolate 0.35
Fish 1.14 Textiles 0.39
Tea 0.84 Animal feed 0.50
Processed fruits & vegs 1.15 Water, soft drinks 1.58
Sugarcane 0.92 Poultry 1.63
Other livestock 1.33 Chemical fertilizer 1.73
Processed meat 0.91 Alcohol, liquors 2.59
Milk, dairy 1.29 paper products 3.82
Cement, mortar 1.35 Other machinery 0.52
Electrical machinery 0.87 Cattle 3.66

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Example: Viˆet-nam
Signiﬁcant speed of adjustment
Sector γk Sector γk
Tea 0.85 Tea, processed 0.64
Other crops 0.73 Sugarcane 0.77
Cattle 1.24 Water & soft drinks 0.95
Textiles 0.72 Wood products 0.45
Paper products 1.26 Fertilizer 0.91
Automobiles 0.85 Chemical products 0.39

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Consider an exporting ﬁrm maximizing proﬁt over N goods:
Π =
N
i=1
PX
i qi
PX
i
e
− C
N
i=1
qi
PX
i
e
, w
where
qi : quantity demanded of exports, good i, as a function of
export price (in foreign currency)
PX
i : export price (in local currency)
Export price in foreign currency is PX
i /e
e: exchange rate (price of foreign currency in terms of local
currency)
w: vector of input prices

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Assume exchange rate has no effect on exporter’s
production cost
Demand for exported good depends on exchange rate e:
qi = qi(PX
i /e)
The exporter maximizes proﬁt with respect to export price
(in local currency):
PX
i = MCi ×
ηi(PX
i /e)
ηi(PX
i /e) − 1
,
where MCi: marginal cost of product i, and ηi: absolute
value of price elasticity of demand in export market for
good i, ηi = |[∂qi/∂(PX
i /e)] × (PX
i /e)/qi|.

Outline
Price Transmission
Empirical Methods
Example: Vietnam
⇔ d log PX
i = τi + (1 − δi)d log MCi + δid log ei,
where
τi: sector-speciﬁc intercept (constant term)
δi =
∂ log ηi
∂ log(PX
i /e)
× 1 − ηi +
∂ log ηi
∂ log(PX
i /e)
−1
It is a coefﬁcient of pricing-to-market (pass-through).
δi = 0 ⇔ full pass-through in currency terms, export price
in domestic currency is only explained by local factors
δi = 1 ⇔ no pass-through, export price in local currency
only explained by external factors.

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Mallick, S. and H. Marques, 2008. Exchange Rate
Transmission into Industry-Level Export Prices: A Tale of
Two Policy Regimes in India. IMF Staff Papers 55(1),
83-107.
Assessment of the impact of Indian reforms in 1991:
Trade liberalization (reduction of tariffs, elimination of
quantitative restrictions)
Change in exchange-rate regime (devaluation of the Rupee
vis-`a-vis USD of 30 percent)
Analytical model of exchange-rate pass-through to exports

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Impact of trade liberalization in India
1980-89 1990-95 1996-2001
Trade (% of GDP) 14.1 19.2 26.7
Import duty (%) 45.8 38.3 24.8
Exchange rate depreciation (%) -6.8 -10.4 -5.7
Import prices (% change) 6.9 7.7 5.9
Import volume (% change) 7.5 15.1 6.2
Mallick and Marques (2008).

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Estimated equation:
d log PX
it = τ + αd log Si + βd log MCi + δid log et + εit
where
d log PX
it : change in log export price in domestic currency
(Rupee)
d log Si: change in log sectoral export share of product i
d log et : change in log exchange rate (an increase
indicating depreciation)
d log MCi: change in log Marginal Cost

Outline
Price Transmission
Empirical Methods
Example: Vietnam
Dependent variable: change in log export price
1980-1990 1991-2001
Exchange rate (e) 0.040 †††
0.179 ***†††
Sector share (S) 0.058 * 0.033 **
Marginal cost (MC) 0.457 ** 0.294
Constant 0.058 *** 0.001
714 Observations, 34 sectors.
*, ** and ***: parameter signiﬁcantly different from 0 at 10, 5, 1 %.
†††
: parameter signiﬁcantly different from 1 at 1 %.
Full pass-through between 1980 and 1990 ; incomplete
pass-through between 1991 and 2001.

Outline
Price Transmission
Use of a consumer demand system to
Estimate (own, cross) price elasticities
Derive Compensating (CV) or Equivalent Variations (EV)
Example: the Almost Ideal Demand System (AIDS, Deaton and
Muellbauer, 1980)
Simulate price changes of imported food commodities
Apply pass-through elasticity to local markets
Estimate welfare change

Outline
Price Transmission
Special case of rationed demand:
Some food items may be subsidized
And some may be rationed (household-speciﬁc ration
cards)
Implications: Several Policy reforms can be considered:
Increasing prices of imports
Reduced subsidy rates on subsidized food items
And/or modiﬁed rationed quantities (quotas)
Need to specify a relevant household demand model

Outline
Price Transmission
Let
pu : M1-vector of market prices
pr : M2 − M1-vector of ﬁxed prices (for rationed goods).
p = (pu, pr ): a M2 vector of prices
z: vector of associated quotas
The expenditure function is
pr z + min
xu
puxu; V(z, xu) ≥ U = pr z + C(U, z, pu),
where
xu: non-rationed quantities
xr : rationed-good quantities
U(., .): direct utility function
V(z, xu) = max U(xu, xr ): indirect utility function

Outline
Price Transmission
AIDS speciﬁcation with rationing: the budget share of the
non-rationed good i, i = 1, 2, . . . , M1 for household h is:
h = 1, 2, . . . , H as follows:
wih = αi +
M1
j=1
γij ln pjh +
M2
j=M1+1
ηijqjh + βi ln
Rch
a(p)
+ uih,
where
M2: total number of goods
p: vector of unit prices
zj: ﬁxed price of rationed good j
qjh: quota on rationed good j
Rh: total expenditure (on the M goods) of the household
Rch = Rh − M2
j=M1+1 qjhzj: expenditure on non-rationed
goods
a(p): aggregate price index
uih: error term. Alban THOMAS Economic Integration, Price Transmission, and Consumer We

Outline
Price Transmission
Estimated elasticities for the non-rationed goods using
LA-AIDS formulae:
eih =
∂ log qih
∂ log Rc
= 1 +
βi
wih
(Expenditure elasticity),
εii,h =
∂ log qih
∂ log pih
= −1−βi +
γii
wih
(Own-price elasticity),
εij,h =
∂ log qih
∂ log pjh
=
γij
wih
−βi
wjh
wih
(Cross-price elasticity),
i = 1, 2, . . . , M1, j = 1, 2, . . . , M1.

Outline
Price Transmission
Elasticities of the non-rationed goods with respect to
rationed-good quotas and ﬁxed prices:
εq
ij,h =
∂ log qih
∂ log qjh
=
ηijqjh
wih
−
qjhzj
Rch
βi
wih
+ 1 (quota elasticity),
εz
ij,h =
∂ log qih
∂ log zj
= −
qjhzj
Rch
βi
wih
+ 1 (ﬁxed-price elasticity),
i = 1, 2, . . . , M1; j = M1 + 1, . . . , M2.

Outline
Price Transmission
Deﬁnition of complementary or substitute rationed goods
according to Madden (1991)
Let zk and zs: denote two quantity-constrained goods, with
respective prices qk and qs
xm: non-rationed good with unit price pm
Goods zk and zs are substitutes if (δqk / δzs) (zs/qk ) < 0
and complements otherwise
zk and xm are substitutes (resp. complements) if
(δqk / δpm) (pm/qk ) >0 (resp. <0)
and
(δxm / δzk ) (zk /xm) <0 (resp. >0).

Outline
Price Transmission
The Egyptian Food Policy
Application to reform of consumer food subsidy policy
Background:
Historical and social importance of Egyptian food subsidy
policy
Due to budget limitations in recent years with soaring food
prices, reforms have been proposed
2007 - 2008: 129 % increase in cereals’ price in Egypt
Bread crisis, urban riots
Insufﬁcient local production: dependence on imports is 54
% for wheat
Egypt was the ﬁrst importer of wheat in 2009
Egyptian food subsidies: 1.8 % of GDP in 2007-2008, 2.1
% in 2008-2009

Outline
Price Transmission
The Egyptian Food Policy
Egyptian food policy:
40 % of calorie needs of low-income households in 2000
Allow to maintain 730,000 households above the poverty
line
76 % of food subsidies are allocated to bread
The two components of the food subsidy system:
Subsidized and rationed goods (20 products in 1989, 2 in
1997 (sugar, cooking oil), 5 in 2004, 4 in 2008 (cooking oil,
sugar, rice, tea)
Subsidized but non-rationed goods
baladi bread (flour 82 %), 5 piastres / loaf (pita)
baladi flour
specific outlets (Tamween), no social criteria

Outline
Price Transmission
The Example of Egypt
Food Subsidy Budget by item in EGP Million for 2009-2010
Subsidies Budget EGP million Percent
Bread subsidy
Imported wheat 6368 48.40
Domestic Wheat 2993 22.75
Corn 688 5.23
Total 10,049 76.37
Rationed Goods Subsidy
Cooking oil 1675 12.73
Sugar 1434 10.90
Total 3109 23.63
Total 13,158 100.00

Outline
Price Transmission
Elasticities from LA-AIDS model, non-rationed products
Income Subs. cooking oil Subs. sugar Subs. cooking oil Subs. sugar
quota quota price price
Cereals 1.1165*** -0.0284*** 0.0706 -0.0291*** -0.0127***
(14.15) (-5.25) (1.13) (-14.15) (-14.15)
Subsidized ﬂour -0.1307 -0.0003 0.6692*** 0.0034 0.0014
(-0.78) (-0.03) (5.15) (0.78) (0.78)
Free-market ﬂour 1.1911*** -0.0273*** 0.0010 -0.0311*** -0.0135***
(12.60) (-3.39) (0.01) (-12.60) (-12.60)
Subsidized bread 1.1039*** -0.0377*** -0.5027*** -0.0288*** -0.0125***
(12.17) (-4.71) (-6.93) (-12.17) (-12.17)
Free-market bread 2.1307*** -0.0416*** -0.7059*** -0.0557*** -0.0242***
(17.62) (-3.80) (-7.32) (-17.62) (-17.62)
Beans 0.8970*** -0.0260*** -0.0707* -0.0234*** -0.0102***
(17.41) (-7.75) (-1.76) (-17.41) (-17.41)
Meat and Fish 1.0068*** -0.0294*** 0.1491*** -0.0263*** -0.0114***
(25.29) (-11.49) (4.86) (-25.29) (-25.29)
Miscellaneous 1.1625*** -0.0260*** -0.2357*** -0.0304*** -0.0132***
(47.00) (-16.11) (-12.41) (-47.00) (-47.00)
Cooking oil 0.7597*** -0.0233** -0.0391 -0.0198*** -0.0086***
(8.17) (-2.23) (-0.53) (-8.17) (-8.17)
Sugar 0.2507*** -0.0069** 0.7095*** -0.0065*** -0.0028***
(5.76) (-2.16) (20.88) (-5.76) (-5.76)

Outline
Price Transmission
Hicksian Price Elasticities from LA-AIDS model
Cereals Subs. Non Sub. Subs. Non Sub. Beans Meat
flour flour bread bread
Cereals -1.6642*** -0.0830 -0.0602 0.1996* 0.1577*** 0.1426*** -0.0616
Subs. -0.1053 -1.0593*** 0.1144 0.1148 -0.0412 0.2355*** 0.1791***
Flour
Non Sub. -0.1308 0.0653 -1.3310*** 0.5578** 0.0200 -0.1010 0.0674
Flour
Subs. 0.3844** 0.0580 0.4212** -2.2598*** 0.1276** -0.1825*** -0.0516
Bread
Non Sub. 0.9628*** -0.1308 0.0592 0.4466** -2.0912*** 0.2276*** -0.1318*
Bread
Beans 0.2053*** 0.0837** -0.0354 -0.1425*** 0.0472*** -1.1529*** 0.0623*
Meat -0.0034 -0.0110 0.0142 -0.0386*** -0.0079** -0.0041 -1.0497***
and Fish
Misc. 0.0321 -0.0043 0.0005 0.0131 -0.02451*** 0.00067 -0.0178*
Cooking oil 0.0664 0.0222 -0.0026 0.0343 0.0023 0.0067 0.0964***
Sugar 0.0082 0.0828 -0.1877*** -0.5670*** 0.0031 0.0812*** 0.2955***
Notes. 498 observations. t-statistics are in parentheses. *, **
and *** respectively denote a parameter significant at the 10, 5
and 1 percent level.

Outline
Price Transmission
AIDS model: OK for effects of market, ﬁxed price and
quota effects on non-rationed goods
Cannot be used to derive elasticities for rationed-good
budget shares
A more structural model: the Mixed Demand model
We follow Moschini and Rizzi (2007)
Let
x = (x1, ..., xN1
) : vector of goods with predetermined
prices
z = (z1, ..., zN2
) : vector of goods with predetermined
quantities
p and q: price vectors associated with x and z respectively.

Outline
Price Transmission
Mixed demand of a representative consumer derived from:
max
x,q
u(x, z) − v(p, q) such that p x + q z = y,
where
u(x, z) and v(p, q): direct and indirect utility functions
respectively
y is consumer’s income (or total expenditure)
Marshallian mixed demands
x∗
= x(p, z, y) and
q∗
= q(p, z, y)
At the optimum, we have
u(x∗, z) = v(p, q∗, y) = vM(p, z, y),
where vM(p, z, y): mixed utility function.

Outline
Price Transmission
Compensated (Hicksian) demand functions:
pc(p, z, u) = xh
(p, z, u),
and compensated price-dependent functions of z:
zc(p, z, u) = −qh
(p, z, u).
Relationship between Hicksian and Marshallian demands:
x(p, z, y) = xh
[p, z, vM
(p, z, y)], q(p, z, y) = qh
[p, z, vM
(p, z, y)],
The mixed utility function vM(p, z, y), can be derived by
solving for u in
c(p, z, u) − zc(p, z, u).z ≡ y.
This is the mixed cost function cM(p, z, vM(p, z, y)).

Outline
Price Transmission
Moschini and Rizzi (2007) specify a cost function that is
afﬁne in u:
c(p, z, u) = F(p, z) + G(p, z).u,
where F(., .) and G(., .) are homogeneous of degree 1 in p.
Mixed utility function becomes
vM
(p, z, y) =
R − F(p, z) + zF(p, z).z
G(p, z) + zG(p, z).z
.
Moschini and Rizzi (2007) specify functions F and G as
F(p, z) = δ p + (a p)(µ z),
G(p, z) = β p+(a p)(γ z)+0.5
p Bp
a p
+0.5(a p)(z Γz)+p Lz,

Outline
Price Transmission
which yield mixed demand equations:
x∗
i = δi + µ z ai +



βi +
N1
j=1
βijpj
a p
+
N2
j=1
λijzj + ai γ z
−0.5
p Bp
(a p)2
− 0.5(z Γz) vM
q∗
r = a p µr +

(a p)γr +
N2
j=1
γrjzrj +
N1
j=1
λjr pj

 vM
,
for i = 1, 2, ..., N1 and r = 1, 2, ..N2.

Outline
Price Transmission
Marshallian own-price and income elasticities from Mixed
Model, non-rationed food products
Own Price Elasticity Income Elasticity
Cereals -0.80*** 1.24***
Subsidized ﬂour -0.06*** 0.54***
Free-market Flour -0.62*** 1.07***
Subsidized bread -0.12*** 0.63***
Free-market bread -1.10*** 1.04***
Beans -0.76*** 0.92***
Meat and Fish -0.58*** 1.12***
Miscellaneous -0.80*** 1.01***
Cooking oil -0.10*** 0.91***
Sugar -0.13*** 0.78***
Notes. 498 observations. t-statistics are in parentheses. *, ** and ***
respectively denote a parameter signiﬁcant at the 10, 5 and 1 percent
level.

Outline
Price Transmission
Elasticities for rationed food products from Mixed Model
Price of rationed good
Marshallian elasticity Hicksian elasticity
Subsidized Subsidized sugar Subsidized Subsidized sugar
cooking oil cooking oil
Subsidized cooking oil -0.03* 0.0080 -0.0299* 0.0093
(-3.61) 0.18 (-3.75) (0.20)
Subsidized sugar 0.0127 -0.12* 0.0125 -0.1169*
(0.17) (-2.96) (0.17) (-2.9)0
Price of non-rationed good
Cereals 0.7894*** 0.1772 0.7869*** 0.1986
(3.16) (0.56) (3.18) (0.63)
Subsidized Flour 0.1252 -0.0646 0.1242 -0.0560
(1.32) (-0.61) (1.33) (-0.53)
Free-market ﬂour -0.3704* -0.0762 -0.3715* -0.0667
(-1.82) (-0.30) (-1.83) (-0.26)
Subsidized Bread -0.1574 -0.1315 -0.1590 -0.1181
(-1.03) (-0.66) (-1.04) (-0.59)
Free-market bread 0.1642** 0.0347 0.1638** 0.0383
(2.05) (0.33) (2.04) (0.37)
Beans -0.0286 -0.0346 -0.0307 -0.0158
(-0.28) (-0.27) (-0.30) (-0.13)
Meat and Fish 0.1344 0.3255* 0.1268 0.3914**
(0.98) (1.90) (0.95) (2.36)
Miscellaneous 0.2817 0.7059** 0.2729 0.7817***
(1.27) (2.54) (1.14) (2.68)
Cooking oil 0.1416 0.2332** 0.1409 0.2393**
(1.38) (2.01) (1.38) (2.08)
Sugar -0.0539 -0.3965*** -0.0553 -0.3840**
(-0.37) -(3.61) (-0.38) (-2.05)

Outline
Price Transmission
Elasticities of non-rationed goods with respect to rationed-good
quotas, from Mixed Model
Rationed-good quota
Marshallian elasticity Hicksian elasticity
Quantity of Subsidized Subsidized sugar Subsidized Subsidized sugar
non-rationed good cooking oil Cooking oil
Cereals -0.0370*** -0.0140 -0.0304*** -0.0047
(-3.29) (-0.60) (-2.72) (-0.2)
Subsidized ﬂour -0.014 0.0080 -0.0111 0.0120
(-1.33) (0.42) (-1.07) (0.64)
Free-market ﬂour 0.0377* 0.0093 0.0433** 0.0174
(1.82) (0.23) (2.11) (0.43)
Subsidized bread 0.0145 0.01797 0.0178 0.0226
(1.04) (0.63) (1.29) (0.79)
Free-market bread -0.0422* -0.0230 -0.0367* -0.0152
(-1.95) (-0.53) (-1.70) (-0.35)
Beans 0.0016 0.0016 0.0065 0.0085
(0.32) (0.16) (1.25) (0.83)
Meat and Fish -0.0018 -0.0072* 0.0040** 0.0011
(-0.93) (-1.85) (2.06) (0.3)
Miscellaneous -0.0037 -0.0152** 0.0015 -0.0076
(-1.20) (-2.42) (0.5) (-1.21)
Cooking oil -0.0237 -0.0688** -0.0189 -0.0619**
(-1.39) (-2.28) (-1.11) (-2.06)
Sugar 0.0049 0.0521* 0.0091 0.0579**
(0.40) (2.01) (0.73) (2.25)

Outline
Price Transmission
Results
Cereals are substitutes to subsidized cooking oil
Meat, miscellaneous food products, and cooking oil are
substitute to subsidized sugar
Free-market ﬂour is complement to subsidized cooking oil
Free-market sugar is complement for subsidized sugar
No relationship between subsidized cooking oil and its free
market counterpart.
We now use these results to simulate a policy reform.
Compensating Variation: amount leaving households with
the same utility level( welfare) after price change(s).

Outline
Price Transmission
Simulation of policy reform
Policies A: remove subsidies on baladi bread and baladi
flour
A1: Remove subsidy on baladi flour (results in 43 percent
price increase)
A2: Remove subsidy on baladi bread (results in 57 percent
price )
A3: A1 + A2
Policies B: remove subsidies on baladi bread and baladi
flour, in a context of rising food prices
B1: A1 + 50 percent increase in cereals’ price

Outline
Price Transmission
Median expenditure variations for Scenario A1, by region type
and income quartile
Rural Urban
Q1 Q1-Q2 Q2-Q3 Q3-Q4 Full sample Q1 Q1-Q2 Q2-Q3 Q3-Q4
Cereals -7.74 -5.43 -4.64 -3.72 -5.04 -4.44 -2.87 -2.51 -1.85
Subs. ﬂour 39.63 38.53 38.45 38.06 38.61 40.60 40.51 40.38 40.32
Non sub. ﬂour -1.70 -0.68 -0.43 -0.28 -0.67 -0.61 -0.19 -0.11 0.01
Subs. bread -0.76 -0.45 -0.20 0.02 -0.33 -0.40 -0.12 0.00 0.06
Non subs. bread -3.20 -3.14 -2.37 -1.86 -2.64 -2.44 -1.78 -1.61 -1.30
Beans 1.99 3.20 3.78 3.78 3.28 1.34 1.57 1.84 1.78
Meat & Fish -5.57 -3.95 -3.31 -2.69 -3.55 -2.97 -1.92 -1.66 -1.29
Misce. -3.40 -2.67 -2.10 -1.68 -2.26 -1.82 -1.25 -1.08 -0.86
Non sub. oil -2.36 -1.69 -1.41 -1.07 -1.62 -1.37 -0.89 -0.70 -0.58
Non sub. sugar -1.94 -2.09 -1.82 -1.62 -1.90 -1.08 -0.95 -0.89 -0.77
Subs. oil 3.45 4.46 5.73 7.96 5.03 2.49 3.46 4.17 5.60
Subs. sugar -0.50 -1.59 -2.21 -4.20 -1.77 -0.60 -1.12 -1.54 -2.09
CV 3.39 2.59 2.10 1.67 2.24 1.84 1.22 1.05 0.81

Outline
Price Transmission
Median CV relative to total expenditure (percent), all scenarios,
rural regions, by income quantile
Rural
CV/Expenditure Q1 Q1-Q2 Q2-Q3 Q3-Q4 Full Sample
Scenario A1 3.31 2.52 2.05 1.65 2.18
Scenario A2 4.07 3.01 2.63 2.07 2.74
Scenario A3 7.50 5.36 4.70 3.71 4.98
Scenario B1 6.73 6.04 5.58 5.18 5.77
Scenario B2 7.70 6.25 6.14 5.47 6.27
Scenario B3 10.52 8.89 8.12 7.26 8.66
CV: Compensating Variation

Outline
Price Transmission
Median CV relative to total expenditure (percent), all scenarios,
urban regions, by income quantile
Urban
CV/Expenditure Q1 Q1-Q2 Q2-Q3 Q3-Q4 Full Sample
Scenario A1 1.80 1.20 1.02 0.79 1.13
Scenario A2 4.81 3.50 2.74 2.55 3.10
Scenario A3 6.65 4.62 3.83 3.32 4.23
Scenario B1 4.50 3.97 3.66 3.53 3.78
Scenario B2 7.52 5.94 5.37 5.37 5.74
Scenario B3 9.20 7.15 6.50 6.17 6.87
CV: Compensating Variation

Outline
Price Transmission
Price Transmission
Import substitution
First application: investigate price transmission
Second application: Explore substitutability between local
and imported goods
Main constraint: consider sectors relevant both for local
and imported commodities
Compare Consumer Price, Producer Price, Import Price
indices

Outline
Price Transmission
Price Transmission
Import substitution
The data
Source: National accounts (retrospective 1997-2007, and
2008-2009)
10 sectors of the Lebanese economy
11. Agricultural products
12. Livestock and ﬁsh
13. Energy
14. Food industry
15. Textile, leather
16. Non-metal ores
17. Metals, machines & equipment
18. Wood, rubber & chemicals
19. Furniture
110. Other industrial products

Outline
Price Transmission
Price Transmission
Import substitution
Price Transmission
Model for price transmission in first differences:
∆PD
kt = µ + γεkt + θ∆PW
kt + α∆CPIt + ukt ,
where
∆PD
kt = PD
kt − PD
k,t−1,
εkt = PD
kt − α − βPW
kt ,
β: cointegration coefficient (long-term relationship between
PD
kt and PW
kt ),
γ: speed of adjustment (towards long-run equilibrium),
θ: intensity of price transmission,
α: degree of inflation pass-through (to sectors).

Outline
Price Transmission
Price Transmission
Import substitution
Price Transmission
Estimation results, all sectors
Dependent variable: ∆PD
t
Parameter Estimate Std. error t-student
α -0.9204** 0.3542 -2.60
γ 0.6002*** 0.0822 7.29
β 0.4057*** 0.0906 4.48
θ 0.1814*** 0.0493 3.68
δ 0.6113*** 0.1158 5.28
R2 0.5683
N 120

Outline
Price Transmission
Price Transmission
Import substitution
Price Transmission
Test results, all sectors
Test Hypothesis Test statistic p-value
γ = 0 No convergence 15.52 0.0000
θ = 1 Law of One Price 275.46 0.0000
θ + α = 1 Neutral inflation 3.85 0.0521
pass-through
Interpretation:
Significant convergence
No Law of One Price (sectors are segmented)
Neutral inflation pass-through

Outline
Price Transmission
Price Transmission
Import substitution
Price Transmission
Estimation results, sector by sector
Dependent variable: ∆PD
t
Sector α γ β θ δ
11 -0.8620 0.8571*** 0.8756*** 0.5873*** -0.0775
12 -2.4661 0.9238*** 0.7898** 0.3147 0.0767
14 -1.04 0.5538* 0.5771* 0.5695*** 0.4942**
16 -0.4744 0.5179* 0.5593 0.2724 1.3733*
18 0.0854 0.4580 1.1135** 0.4622* 0.7148**
110 0.4109 0.8010** 1.1266*** 0.5996*** -0.2148

Outline
Price Transmission
Price Transmission
Import substitution
Price Transmission
Test results, sector by sector (p-values)
Sector γ = 0 θ = 1 θ + α = 1
11. Agricultural products 0.010 0.0735 0.2652
12. Livestock 0.021 0.0383 0.3115
14. Food industry 0.110 0.0754 0.7170
16. Non-metal ores 0.129 0.1682 0.1892
18. Wood, rubber 0.169 0.0802 0.5125
110. Other industrial products 0.035 0.1094 0.0748
Interpretation:
Signiﬁcant convergence for sectors 11, 12 and 110
Law of One Price in all sectors except 12
Neutral inﬂation pass-through in all sectors

Outline
Price Transmission
Price Transmission
Import substitution
Import substitution
Estimation of a simple AIDS-type model, for 2 goods: local
(D) or imported (M)
Share of imported commodities, sector k
wM
kt = αk + γD,M
k log pD
kt + γM,M
k log pM
kt + βk log
Rkt
P∗
t
+ ukt ,
where
Rkt = pD
kt qD
kt + pM
kt qM
kt ,
P∗
t = i=D,M wi
kt log Pi
kt
Computation of substitution elasticities: local vs. imported
commodities

Outline
Price Transmission
Price Transmission
Import substitution
Import substitution
Price elasticities, local vs. imported commodities
Sector Own-price Cross-price
elasticity elasticity
11. Agricultural products -0.6553 -1.0391
12. Livestock & ﬁsh -1.0673 -0.4687
13. Energy -0.8274 0.2079
14. Food industry -0.3488 -0.8781
15. Textile, leather -1.2373 -0.2347
16. Non-metal ores -1.5458 1.5517
17. Metals, equipment -0.9528 -0.5040
18. Wood, rubber -1.3890 0.0150
19. Furniture -0.3899 -1.4419
110. Other industrial products -0.3122 0.4405
All -0.8933 -0.5214

Outline
Price Transmission
Price Transmission
Import substitution
Import substitution
Interpretation
Strongly elastic import demands: Textile & leather,
non-metal ores, metals & equipment, wood & rubber
Poorly elastic import demands: food industry, furniture,
other industrial products
Almost all local products are complements, not substitutes

Uleac economic integration price transmission and consumer welfare

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