Uleac economic integration price transmission and consumer welfare

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Presentation by Dr. Alban Thomas at LEA's conference. …

Presentation by Dr. Alban Thomas at LEA's conference.
For more information about the project, visit: http://leb-econ.org/site/upgrading-lebanons-economic-analytical-capacity/

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  • 1. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEconomic Integration, Price Transmission, andConsumer Welfare. Lessons Learned andPolicy ReformsAlban Thomas11Toulouse School of EconomicsLebanese Economic Association, Beirut, May 9, 2011Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 2. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonIntroductionBackground: Growing concern regardingIncreasing and more volatile commodity pricesDependence upon imported energy sourcesCombination of high unemployment level and rising inflationCountries with subsidy policies (consumption, energy):less and less sustainable public deficitNeed to maintain local firms’ profitability and protectconsumer welfareAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 3. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonIntroductionThis presentation:Some aspects of price vulnerability and consumer welfarePrice transmission through international trade (imports)and exchange rateExamples: Viˆet-Nam and IndiaImpact on consumer welfareExample: Egyptian food policyApplication to Lebanon: price transmission and importsubstitutionAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 4. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonOutline I1 Price TransmissionEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of India2 Assessing the Impact on Consumer WelfareThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand Model3 Application to LebanonPrice TransmissionImport substitutionAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 5. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaPrice TransmissionMarket structureExportsExchange RateImports Wholesale market structureRetail marketAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 6. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaPrice TransmissionAssumptions often made for small countries:World prices are fixed (given)Perfect transmission of world prices to border pricesDomestic prices are driven by world prices, exchange rates,tariffs, and transaction costsPrice transmission may be affected byTransportation and transaction costsImperfect exchange-rate pass-throughProduct differentiationBorder (and domestic) price policiesAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 7. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaPrice TransmissionExamples of failure of full-price transmission:Transportation costs may beNon-stationaryFixed, not proportional to traded quantitiesMultiplicative, not additive (between each other)Incomplete exchange-rate pass-through:Pricing-to-market exporter strategy (to stabilize final price)Shifts in marginal costsPrice policiesVariable tariffs as stabilization policyNon-tariff barriers (sanitary, quotas)Domestic price-support policiesAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 8. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaEmpirical MethodsTime-series modeling: comparison between world anddomestic pricesTesting for convergence with dynamic modelsConsiderPDt = µ + β1PWt + β2PDt−1 + ut ,wherePDt : domestic price level,PWt : world price level,ut : error term.Error correction model: account for world-domestic pricegapεt = PDt − α − βPWtAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 9. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaEmpirical MethodsCombining both equations and taking first differencesyields:∆PDt = α + γ(PDt − α − βPWt ) + θ∆PWt + ut ,⇔ ∆PDt = α + γεt + θ∆PWt + ut ,where ∆PDt = PDt − PDt−1.Interpretation of parameters:β: cointegration coefficient, measures long-termrelationship between PDt and PWtγ: speed of adjustment (towards long-run equilibrium)θ: intensity of price transmissionTest: convergence if γ = 0.Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 10. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaEmpirical MethodsIncluding exchange rate and tariffsPDkt = eNt × PWkt × (1 + Tkt ) × (1 + τkt )wherePDkt domestic price, sector k,PWkt : world price (in foreign currency), sector k,eNt : nominal exchange rate (local currency per unit offoreign currency),Tkt : ad valorem tariff for sector k,τkt : transportation and transaction costs for sector k.We need to construct the tariff-inclusive world pricemeasured in local currencyAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 11. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaEmpirical MethodsDefine CPIHt and CPIFt : consumer price indices in localand foreign countriesThe real exchange rate at time t is theneRt = eNt ×CPIFtCPIHtand the tariff-inclusive world price measured in localcurrency is˜PWkt = eRt ×CPIHtCPIFt× PWkt × (1 + Tkt )⇔ PDkt = PWkt × (1 + τkt ) .Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 12. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaEmpirical MethodsEstimation and testingModel I: Levels, log-loglog PDkt = µk + θk log ˜PWkt + εktModel II: Levels, log-log, with domestic inflationlog PDkt = µk + θk log ˜PWkt + αk log CPIHt + εktModel III: First-difference, error correction model∆PDkt = µk + γk (˜PWk,t−1 − PDk,t−1) + θk ∆˜PWkt + εktModel IV: First-difference, error correction model withinflation∆PDkt = µk + γk (˜PWk,t−1 − PDk,t−1) + θk ∆˜PWkt + αk ∆CPIHt + εktAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 13. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaEmpirical MethodsParameter θk : elasticity of price transmissionby construction in log-log modelsin first-difference models if base-year levels used incomputations (base 100)Parameter γk : speed of adjustment to long-run equilibriumin sector kParameter αk : degree of inflation pass-through in sector kHypothesis testingLaw of One Price (LOP, co-movement between domesticand world prices):θk = 1.Neutral inflation pass-through:θk + αk = 1 ⇔ (θk = 0, αk = 1) or (θk = 1, αk = 0)Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 14. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaExample: Viˆet-namAbbott, P., C. Wu and F. Tarp, 2011. Transmission of Worldprices to the Domestic Market in Vietnam. Working paper,Purdue University.Period: 1999 to 2008Sector-specific regressions, for 87 sectorsClassification of sectors intoIntegrated if θk significantly = 0 and = 1Segmented if θk significantly = 1 and = 0Neutral inflation pass-through if θk + αk = 1Convergence of domestic prices to world prices (significantspeed of adjustment) if γk = 0.Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 15. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaExample: Viˆet-namIntegrated sectors Integrated sectorsSector θk Sector θkTea, processed 0.84 Rice, processed -0.22Other crops 0.78 Fish -0.08Sugar, refined 3.50 Coffee beans -0.10Vegetables, animal fat 1.64 Processed fruits -0.24Wood products 1.08 Poultry 0.08Machinery 0.61 Milk, dairy -0.16Cement 0.74 Leather goods -0.99Organic chemicals 0.78 Bicycles -0.13Plastic products 0.72 Electrical machinery -1.04Automobiles 3.63 Cigarettes, tobacco 0.00Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 16. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaExample: Viˆet-namNeutral inflation pass-through Non-neutral inflation pass-throughSector αk Sector αkRice, processed 1.97 Confectionery, chocolate 0.35Fish 1.14 Textiles 0.39Tea 0.84 Animal feed 0.50Processed fruits & vegs 1.15 Water, soft drinks 1.58Sugarcane 0.92 Poultry 1.63Other livestock 1.33 Chemical fertilizer 1.73Processed meat 0.91 Alcohol, liquors 2.59Milk, dairy 1.29 paper products 3.82Cement, mortar 1.35 Other machinery 0.52Electrical machinery 0.87 Cattle 3.66Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 17. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaExample: Viˆet-namSignificant speed of adjustmentSector γk Sector γkTea 0.85 Tea, processed 0.64Other crops 0.73 Sugarcane 0.77Cattle 1.24 Water & soft drinks 0.95Textiles 0.72 Wood products 0.45Paper products 1.26 Fertilizer 0.91Automobiles 0.85 Chemical products 0.39Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 18. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaExchange-rate pass-throughConsider an exporting firm maximizing profit over N goods:Π =Ni=1PXi qiPXie− CNi=1qiPXie, wwhereqi : quantity demanded of exports, good i, as a function ofexport price (in foreign currency)PXi : export price (in local currency)Export price in foreign currency is PXi /ee: exchange rate (price of foreign currency in terms of localcurrency)w: vector of input pricesAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 19. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaExchange-rate pass-throughAssume exchange rate has no effect on exporter’sproduction costDemand for exported good depends on exchange rate e:qi = qi(PXi /e)The exporter maximizes profit with respect to export price(in local currency):PXi = MCi ×ηi(PXi /e)ηi(PXi /e) − 1,where MCi: marginal cost of product i, and ηi: absolutevalue of price elasticity of demand in export market forgood i, ηi = |[∂qi/∂(PXi /e)] × (PXi /e)/qi|.Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 20. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaExchange-rate pass-through⇔ d log PXi = τi + (1 − δi)d log MCi + δid log ei,whereτi: sector-specific intercept (constant term)δi =∂ log ηi∂ log(PXi /e)× 1 − ηi +∂ log ηi∂ log(PXi /e)−1It is a coefficient of pricing-to-market (pass-through).δi = 0 ⇔ full pass-through in currency terms, export pricein domestic currency is only explained by local factorsδi = 1 ⇔ no pass-through, export price in local currencyonly explained by external factors.Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 21. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaExchange-rate pass-through: The example of IndiaMallick, S. and H. Marques, 2008. Exchange RateTransmission into Industry-Level Export Prices: A Tale ofTwo 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 ofquantitative restrictions)Change in exchange-rate regime (devaluation of the Rupeevis-`a-vis USD of 30 percent)Analytical model of exchange-rate pass-through to exportsAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 22. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaExchange-rate pass-through: The example of IndiaImpact of trade liberalization in India1980-89 1990-95 1996-2001Trade (% of GDP) 14.1 19.2 26.7Import duty (%) 45.8 38.3 24.8Exchange rate depreciation (%) -6.8 -10.4 -5.7Import prices (% change) 6.9 7.7 5.9Import volume (% change) 7.5 15.1 6.2Mallick and Marques (2008).Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 23. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaExchange-rate pass-through: The example of IndiaEstimated equation:d log PXit = τ + αd log Si + βd log MCi + δid log et + εitwhered log PXit : change in log export price in domestic currency(Rupee)d log Si: change in log sectoral export share of product id log et : change in log exchange rate (an increaseindicating depreciation)d log MCi: change in log Marginal CostAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 24. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonEmpirical MethodsExample: VietnamExchange-rate pass-throughExchange-rate pass-through: The example of IndiaExchange-rate pass-through: The example of IndiaDependent variable: change in log export price1980-1990 1991-2001Exchange rate (e) 0.040 †††0.179 ***†††Sector share (S) 0.058 * 0.033 **Marginal cost (MC) 0.457 ** 0.294Constant 0.058 *** 0.001714 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 ; incompletepass-through between 1991 and 2001.Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 25. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelAssessing the Impact on Consumer WelfareUse of a consumer demand system toEstimate (own, cross) price elasticitiesDerive Compensating (CV) or Equivalent Variations (EV)Example: the Almost Ideal Demand System (AIDS, Deaton andMuellbauer, 1980)Simulate price changes of imported food commoditiesApply pass-through elasticity to local marketsEstimate welfare changeAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 26. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelAssessing the Impact on Consumer WelfareSpecial case of rationed demand:Some food items may be subsidizedAnd some may be rationed (household-specific rationcards)Implications: Several Policy reforms can be considered:Increasing prices of importsReduced subsidy rates on subsidized food itemsAnd/or modified rationed quantities (quotas)Need to specify a relevant household demand modelAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 27. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelThe AIDS Model Applied to Rationed DemandLetpu : M1-vector of market pricespr : M2 − M1-vector of fixed prices (for rationed goods).p = (pu, pr ): a M2 vector of pricesz: vector of associated quotasThe expenditure function ispr z + minxupuxu; V(z, xu) ≥ U = pr z + C(U, z, pu),wherexu: non-rationed quantitiesxr : rationed-good quantitiesU(., .): direct utility functionV(z, xu) = max U(xu, xr ): indirect utility functionAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 28. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelAIDS specification with rationing: the budget share of thenon-rationed good i, i = 1, 2, . . . , M1 for household h is:h = 1, 2, . . . , H as follows:wih = αi +M1j=1γij ln pjh +M2j=M1+1ηijqjh + βi lnRcha(p)+ uih,whereM2: total number of goodsp: vector of unit priceszj: fixed price of rationed good jqjh: quota on rationed good jRh: total expenditure (on the M goods) of the householdRch = Rh − M2j=M1+1 qjhzj: expenditure on non-rationedgoodsa(p): aggregate price indexuih: error term. Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 29. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelEstimated elasticities for the non-rationed goods usingLA-AIDS formulae:eih =∂ log qih∂ log Rc= 1 +βiwih(Expenditure elasticity),εii,h =∂ log qih∂ log pih= −1−βi +γiiwih(Own-price elasticity),εij,h =∂ log qih∂ log pjh=γijwih−βiwjhwih(Cross-price elasticity),i = 1, 2, . . . , M1, j = 1, 2, . . . , M1.Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 30. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelThe AIDS Model Applied to Rationed DemandElasticities of the non-rationed goods with respect torationed-good quotas and fixed prices:εqij,h =∂ log qih∂ log qjh=ηijqjhwih−qjhzjRchβiwih+ 1 (quota elasticity),εzij,h =∂ log qih∂ log zj= −qjhzjRchβiwih+ 1 (fixed-price elasticity),i = 1, 2, . . . , M1; j = M1 + 1, . . . , M2.Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 31. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelThe AIDS Model Applied to Rationed DemandDefinition of complementary or substitute rationed goodsaccording to Madden (1991)Let zk and zs: denote two quantity-constrained goods, withrespective prices qk and qsxm: non-rationed good with unit price pmGoods zk and zs are substitutes if (δqk / δzs) (zs/qk ) < 0and complements otherwisezk and xm are substitutes (resp. complements) if(δqk / δpm) (pm/qk ) >0 (resp. <0)and(δxm / δzk ) (zk /xm) <0 (resp. >0).Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 32. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelThe Egyptian Food PolicyApplication to reform of consumer food subsidy policyBackground:Historical and social importance of Egyptian food subsidypolicyDue to budget limitations in recent years with soaring foodprices, reforms have been proposed2007 - 2008: 129 % increase in cereals’ price in EgyptBread crisis, urban riotsInsufficient local production: dependence on imports is 54% for wheatEgypt was the first importer of wheat in 2009Egyptian food subsidies: 1.8 % of GDP in 2007-2008, 2.1% in 2008-2009Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 33. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelThe Egyptian Food PolicyEgyptian food policy:40 % of calorie needs of low-income households in 2000Allow to maintain 730,000 households above the povertyline76 % of food subsidies are allocated to breadThe two components of the food subsidy system:Subsidized and rationed goods (20 products in 1989, 2 in1997 (sugar, cooking oil), 5 in 2004, 4 in 2008 (cooking oil,sugar, rice, tea)Subsidized but non-rationed goodsbaladi bread (flour 82 %), 5 piastres / loaf (pita)baladi flourspecific outlets (Tamween), no social criteriaAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 34. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelThe Example of EgyptFood Subsidy Budget by item in EGP Million for 2009-2010Subsidies Budget EGP million PercentBread subsidyImported wheat 6368 48.40Domestic Wheat 2993 22.75Corn 688 5.23Total 10,049 76.37Rationed Goods SubsidyCooking oil 1675 12.73Sugar 1434 10.90Total 3109 23.63Total 13,158 100.00Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 35. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelElasticities from LA-AIDS model, non-rationed productsIncome Subs. cooking oil Subs. sugar Subs. cooking oil Subs. sugarquota quota price priceCereals 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)Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 36. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelHicksian Price Elasticities from LA-AIDS modelCereals Subs. Non Sub. Subs. Non Sub. Beans Meatflour flour bread breadCereals -1.6642*** -0.0830 -0.0602 0.1996* 0.1577*** 0.1426*** -0.0616Subs. -0.1053 -1.0593*** 0.1144 0.1148 -0.0412 0.2355*** 0.1791***FlourNon Sub. -0.1308 0.0653 -1.3310*** 0.5578** 0.0200 -0.1010 0.0674FlourSubs. 0.3844** 0.0580 0.4212** -2.2598*** 0.1276** -0.1825*** -0.0516BreadNon Sub. 0.9628*** -0.1308 0.0592 0.4466** -2.0912*** 0.2276*** -0.1318*BreadBeans 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 FishMisc. 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, 5and 1 percent level.Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 37. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelThe Mixed Demand ModelAIDS model: OK for effects of market, fixed price andquota effects on non-rationed goodsCannot be used to derive elasticities for rationed-goodbudget sharesA more structural model: the Mixed Demand modelWe follow Moschini and Rizzi (2007)Letx = (x1, ..., xN1) : vector of goods with predeterminedpricesz = (z1, ..., zN2) : vector of goods with predeterminedquantitiesp and q: price vectors associated with x and z respectively.Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 38. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelThe Mixed Demand ModelMixed demand of a representative consumer derived from:maxx,qu(x, z) − v(p, q) such that p x + q z = y,whereu(x, z) and v(p, q): direct and indirect utility functionsrespectivelyy is consumer’s income (or total expenditure)Marshallian mixed demandsx∗= x(p, z, y) andq∗= q(p, z, y)At the optimum, we haveu(x∗, z) = v(p, q∗, y) = vM(p, z, y),where vM(p, z, y): mixed utility function.Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 39. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelCompensated (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 bysolving for u inc(p, z, u) − zc(p, z, u).z ≡ y.This is the mixed cost function cM(p, z, vM(p, z, y)).Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 40. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelMoschini and Rizzi (2007) specify a cost function that isaffine 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 becomesvM(p, z, y) =R − F(p, z) + zF(p, z).zG(p, z) + zG(p, z).z.Moschini and Rizzi (2007) specify functions F and G asF(p, z) = δ p + (a p)(µ z),G(p, z) = β p+(a p)(γ z)+0.5p Bpa p+0.5(a p)(z Γz)+p Lz,Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 41. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand Modelwhich yield mixed demand equations:x∗i = δi + µ z ai +βi +N1j=1βijpja p+N2j=1λijzj + ai γ z−0.5p Bp(a p)2− 0.5(z Γz) vMq∗r = a p µr +(a p)γr +N2j=1γrjzrj +N1j=1λjr pj vM,for i = 1, 2, ..., N1 and r = 1, 2, ..N2.Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 42. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelMarshallian own-price and income elasticities from MixedModel, non-rationed food productsOwn Price Elasticity Income ElasticityCereals -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 percentlevel.Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 43. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelElasticities for rationed food products from Mixed ModelPrice of rationed goodMarshallian elasticity Hicksian elasticitySubsidized Subsidized sugar Subsidized Subsidized sugarcooking oil cooking oilSubsidized 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)0Price of non-rationed goodCereals 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)Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 44. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelElasticities of non-rationed goods with respect to rationed-goodquotas, from Mixed ModelRationed-good quotaMarshallian elasticity Hicksian elasticityQuantity of Subsidized Subsidized sugar Subsidized Subsidized sugarnon-rationed good cooking oil Cooking oilCereals -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)Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 45. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelResultsCereals are substitutes to subsidized cooking oilMeat, miscellaneous food products, and cooking oil aresubstitute to subsidized sugarFree-market flour is complement to subsidized cooking oilFree-market sugar is complement for subsidized sugarNo relationship between subsidized cooking oil and its freemarket counterpart.We now use these results to simulate a policy reform.Compensating Variation: amount leaving households withthe same utility level( welfare) after price change(s).Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 46. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelSimulation of policy reformPolicies A: remove subsidies on baladi bread and baladiflourA1: Remove subsidy on baladi flour (results in 43 percentprice increase)A2: Remove subsidy on baladi bread (results in 57 percentprice )A3: A1 + A2Policies B: remove subsidies on baladi bread and baladiflour, in a context of rising food pricesB1: A1 + 50 percent increase in cereals’ priceB2: A2 + 50 percent increase in cereals’ priceB3: A3 + 50 percent increase in cereals’ priceAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 47. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelMedian expenditure variations for Scenario A1, by region typeand income quartileRural UrbanQ1 Q1-Q2 Q2-Q3 Q3-Q4 Full sample Q1 Q1-Q2 Q2-Q3 Q3-Q4Cereals -7.74 -5.43 -4.64 -3.72 -5.04 -4.44 -2.87 -2.51 -1.85Subs. flour 39.63 38.53 38.45 38.06 38.61 40.60 40.51 40.38 40.32Non sub. flour -1.70 -0.68 -0.43 -0.28 -0.67 -0.61 -0.19 -0.11 0.01Subs. bread -0.76 -0.45 -0.20 0.02 -0.33 -0.40 -0.12 0.00 0.06Non subs. bread -3.20 -3.14 -2.37 -1.86 -2.64 -2.44 -1.78 -1.61 -1.30Beans 1.99 3.20 3.78 3.78 3.28 1.34 1.57 1.84 1.78Meat & Fish -5.57 -3.95 -3.31 -2.69 -3.55 -2.97 -1.92 -1.66 -1.29Misce. -3.40 -2.67 -2.10 -1.68 -2.26 -1.82 -1.25 -1.08 -0.86Non sub. oil -2.36 -1.69 -1.41 -1.07 -1.62 -1.37 -0.89 -0.70 -0.58Non sub. sugar -1.94 -2.09 -1.82 -1.62 -1.90 -1.08 -0.95 -0.89 -0.77Subs. oil 3.45 4.46 5.73 7.96 5.03 2.49 3.46 4.17 5.60Subs. sugar -0.50 -1.59 -2.21 -4.20 -1.77 -0.60 -1.12 -1.54 -2.09CV 3.39 2.59 2.10 1.67 2.24 1.84 1.22 1.05 0.81Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 48. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelMedian CV relative to total expenditure (percent), all scenarios,rural regions, by income quantileRuralCV/Expenditure Q1 Q1-Q2 Q2-Q3 Q3-Q4 Full SampleScenario A1 3.31 2.52 2.05 1.65 2.18Scenario A2 4.07 3.01 2.63 2.07 2.74Scenario A3 7.50 5.36 4.70 3.71 4.98Scenario B1 6.73 6.04 5.58 5.18 5.77Scenario B2 7.70 6.25 6.14 5.47 6.27Scenario B3 10.52 8.89 8.12 7.26 8.66CV: Compensating VariationAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 49. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonThe AIDS Model Applied to Rationed DemandThe Egyptian food policyThe Mixed Demand ModelMedian CV relative to total expenditure (percent), all scenarios,urban regions, by income quantileUrbanCV/Expenditure Q1 Q1-Q2 Q2-Q3 Q3-Q4 Full SampleScenario A1 1.80 1.20 1.02 0.79 1.13Scenario A2 4.81 3.50 2.74 2.55 3.10Scenario A3 6.65 4.62 3.83 3.32 4.23Scenario B1 4.50 3.97 3.66 3.53 3.78Scenario B2 7.52 5.94 5.37 5.37 5.74Scenario B3 9.20 7.15 6.50 6.17 6.87CV: Compensating VariationAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 50. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonPrice TransmissionImport substitutionApplication to LebanonFirst application: investigate price transmissionSecond application: Explore substitutability between localand imported goodsMain constraint: consider sectors relevant both for localand imported commoditiesCompare Consumer Price, Producer Price, Import PriceindicesAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 51. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonPrice TransmissionImport substitutionApplication to LebanonThe dataSource: National accounts (retrospective 1997-2007, and2008-2009)10 sectors of the Lebanese economy11. Agricultural products12. Livestock and fish13. Energy14. Food industry15. Textile, leather16. Non-metal ores17. Metals, machines & equipment18. Wood, rubber & chemicals19. Furniture110. Other industrial productsAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 52. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonPrice TransmissionImport substitutionPrice TransmissionModel for price transmission in first differences:∆PDkt = µ + γεkt + θ∆PWkt + α∆CPIt + ukt ,where∆PDkt = PDkt − PDk,t−1,εkt = PDkt − α − βPWkt ,β: cointegration coefficient (long-term relationship betweenPDkt and PWkt ),γ: speed of adjustment (towards long-run equilibrium),θ: intensity of price transmission,α: degree of inflation pass-through (to sectors).Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 53. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonPrice TransmissionImport substitutionPrice TransmissionEstimation results, all sectorsDependent variable: ∆PDtParameter Estimate Std. error t-studentα -0.9204** 0.3542 -2.60γ 0.6002*** 0.0822 7.29β 0.4057*** 0.0906 4.48θ 0.1814*** 0.0493 3.68δ 0.6113*** 0.1158 5.28R2 0.5683N 120Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 54. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonPrice TransmissionImport substitutionPrice TransmissionTest results, all sectorsTest Hypothesis Test statistic p-valueγ = 0 No convergence 15.52 0.0000θ = 1 Law of One Price 275.46 0.0000θ + α = 1 Neutral inflation 3.85 0.0521pass-throughInterpretation:Significant convergenceNo Law of One Price (sectors are segmented)Neutral inflation pass-throughAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 55. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonPrice TransmissionImport substitutionPrice TransmissionEstimation results, sector by sectorDependent variable: ∆PDtSector α γ β θ δ11 -0.8620 0.8571*** 0.8756*** 0.5873*** -0.077512 -2.4661 0.9238*** 0.7898** 0.3147 0.076714 -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*** -0.2148Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 56. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonPrice TransmissionImport substitutionPrice TransmissionTest results, sector by sector (p-values)Sector γ = 0 θ = 1 θ + α = 111. Agricultural products 0.010 0.0735 0.265212. Livestock 0.021 0.0383 0.311514. Food industry 0.110 0.0754 0.717016. Non-metal ores 0.129 0.1682 0.189218. Wood, rubber 0.169 0.0802 0.5125110. Other industrial products 0.035 0.1094 0.0748Interpretation:Significant convergence for sectors 11, 12 and 110Law of One Price in all sectors except 12Neutral inflation pass-through in all sectorsAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 57. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonPrice TransmissionImport substitutionImport substitutionEstimation of a simple AIDS-type model, for 2 goods: local(D) or imported (M)Share of imported commodities, sector kwMkt = αk + γD,Mk log pDkt + γM,Mk log pMkt + βk logRktP∗t+ ukt ,whereRkt = pDkt qDkt + pMkt qMkt ,P∗t = i=D,M wikt log PiktComputation of substitution elasticities: local vs. importedcommoditiesAlban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 58. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonPrice TransmissionImport substitutionImport substitutionPrice elasticities, local vs. imported commoditiesSector Own-price Cross-priceelasticity elasticity11. Agricultural products -0.6553 -1.039112. Livestock & fish -1.0673 -0.468713. Energy -0.8274 0.207914. Food industry -0.3488 -0.878115. Textile, leather -1.2373 -0.234716. Non-metal ores -1.5458 1.551717. Metals, equipment -0.9528 -0.504018. Wood, rubber -1.3890 0.015019. Furniture -0.3899 -1.4419110. Other industrial products -0.3122 0.4405All -0.8933 -0.5214Alban THOMAS Economic Integration, Price Transmission, and Consumer We
  • 59. OutlinePrice TransmissionAssessing the Impact on Consumer WelfareApplication to LebanonPrice TransmissionImport substitutionImport substitutionInterpretationStrongly elastic import demands: Textile & leather,non-metal ores, metals & equipment, wood & rubberPoorly elastic import demands: food industry, furniture,other industrial productsAlmost all local products are complements, not substitutesAlban THOMAS Economic Integration, Price Transmission, and Consumer We