Markups in U.S. and Japanese Manufacturing: A Short Run Econometric Analysis

In this paper a production theory-based model of firms' markup behavior is constructed. The theoretical structure is based on variants of generalized Leontief cost and expenditure functions. This structure yields a full specification of behavior from which the impacts of both supply and demand shocks on firms' markup behavior can be assessed through elasticities. Adjustment costs on both labor and capital and economies of scale are incorporated. Estimation is carried out using manufacturing data for the U.S. and Japan from 1960 through 1981. The empirical results suggest that markups for manufacturing firms in the U.S. and Japan have increased over time, but tend to be procyclical in the U.S. and countercyclical in Japan. This difference stems primarily from differential investment behavior. In addition, capacity utilization and especially returns to scale tend to counteract the short run profit potential from markup behavior, so that markups measured assuming constant returns may be biased downward. Finally, both supply and demand shocks appear to have a significant systematic impact on markups.