Showing papers on "Price level published in 1971"

Limit pricing and uncertain entry

Abstract: The situation in which a seller is aware that his pricing policy will affect the probability of entry of competing suppliers is studied. The seller's optimal price policy is developed under the assumption that the entry probability is a non-decreasing function of product price and that the objective is present value maximization. It is shown that the optimal pre-entry price tends to fall as the discount rate drops, the market growth rate rises, the post-entry profit possibilities decline, or certain non-price barriers to entry fall. ECONOMISTS HAVE LONG known that maximizing immediate profits is often not the optimal strategy for a firm to pursue if its planning horizon extends beyond the present. A policy for achieving the highest overall reward may dictate the sacrifice of some current gain. This point has played a central role in the development of the theory of a "limit price." The theory deals with determination of the entrypreventing price by a supplier of a market when potential entrants exist. The supplier in question may be a firm or a group of (tacitly) cooperating firms. The high short term profits associated with the pursuit of monopoly pricing must be balanced against the loss of long term profits upon entry of additional suppliers attracted by the high price. In an early paper formalizing the problem, Bain [2] defined the "limit price" as the highest price that the established sellers can set without inducing entry. Modigliani [9] developed a graphical derivation of the limit price and analyzed a number of its determinants. Fisher [6] related these results to Cournot's duopoly model. Recent contributors include Pashigian [10] and Dewey [5]. On the other side of the Atlantic, Harrod [7], in an attack on the "doctrine of excess capacity," argued that a long-run profit maximizing firm would set price to preclude entry. According to Hicks' [8] formalization of Harrod's argument, the firm seeks maximization of a weighted sum of short-run and long-run profits, with the relative weights reflecting the firm's attitudes regarding these periods. It follows from this that the firm may not set price at its entry preventing level. Explicit criticism of the limit price concept has not been lacking. Williamson [13], while extending the concept of a limit price to a limit price-selling cost frontier, suggested that the deterministic framework be modified to a probabilistic one. In proposing a stochastic approach, he noted that the limit price theory is highly rigid, with a single point or curve dividing certain entry from no entry. Williamson also observed that the assumed optimality of the limit price implied that the firm would be willing to prevent entry at any cost. Stigler [12, p. 227] has pointed out that the attractiveness of entry will depend not only upon the current rate of return to the industry, but also upon the anticipated rate of growth of industry demand. If the latter is large, then the present value of future profits may be sufficiently large

A Tax-Based Incomes Policy

Abstract: Our earlier suggestions for using the income tax mechanism to implement an anti-inflationary incomes policy have received some attention.1 This article aims: (1) to present a full statement of the approach, (2) to extend the economic analysis underlying it, (3) to assess some troublesome technical matters, and (4) to demonstrate the advantages of an incomes policy relying on market forces over those that do violence to the market. The facts of our intractable inflation need not be recited. Complicating the price rise has been an unduly high rate of unemployment. The twin goals of price level stability and full employment have so far eluded conventional monetary and fiscal techniques. New measures commend themselves to counter the new experience of 1969-70 in which prices and unemployment rose simultaneously in contrast to past business cycles when their paths diverged.2 It would be an error, however, to regard an incomes policy, such as we propose, as a substitute for monetary and fiscal policy. Instead, the proposal is conceived as a supplement to the familiar monetary-fiscal policies so that the economy might operate closer to full employment without the inflationary danger of excess demand and "overheating".

Money, Interest, and Prices in Market Disequilibrium

Abstract: This paper develops a general model of multimarket disequilibrium and uses it to explain the disequilibrium behavior of prices and interest. Section I summarizes the conventional distinctions between the dynamic loanable-funds and liquidity-preference theories of interest and between the dynamic quantity and expenditure theories of prices. Sections II and III develop the concepts of notional demand and gradual market clearing, which are essential in the conventional analysis. The next three sections develop a choice-theoretic theory of effective demands, starting in Section IV with a generalization of Clower's dual-decision hypothesis to a multimarket context. Section V analyzes the determination of quantity constraints on individual transactions implied by market disequilibriums. Section VI deals with aggregation of the individual effective-demands functions. Finally, Section VII shows how the aggregate effective demands determine the dynamic behavior of the interest rate and price level, and Section VII...

Money and Capacity Growth

Abstract: IN ilnS review article on monetary theory, Harry G. Johnson noted that "almost nothing has yet been done to break monetary theory loose from the mould of short-run equilibrium analysis, conducted in abstraction from the process of growth and accumulation, and to integrate it with the rapidly developing theoretical literature on economic growth (important exceptions noted here are Tobin and Enthoven). "I An integration of monetary and growth theory is attempted in my paper; and the effects of money upon the real variables in a growing economy are explored. There are five main features to my full-employment growth model. First, the familiar techniques of shortrun aggregative economics-the equilibrium conditions in the goods and services market and in the money market-are modified and are used to study the role of money in a growing economy. In this way, the short-run analysis becomes a special case of the general analysis of growth. Second, the proportionate rate of growth of the price level will converge asymptotically to the proportionate rate of growth of the money supply less the proportionate rate of growth of effective labor. Third, the proportionate rate of

A Note on Biases in Capital Budgeting Introduced by Inflation

Abstract: In the allocation of capital to investment projects, it is unlikely that optimal decisions will be reached unless anticipated inflation is embodied in the cash-flow estimates. Often, there is a tendency to assume that price levels remain unchanged throughout the life of the project. Frequently this assumption is imposed unknowingly; future cash flows are estimated simply on the basis of existing prices. However, a bias arises in that the cost-of-capital rate used as the acceptance criterion embodies an element attributable to anticipated inflation, while the cash-flow estimates do not. Although this bias may not be serious when there is modest inflation, it may become quite important in periods of high anticipated inflation. The purpose of this note is to investigate the nature of the bias and how it arises.

The random walk hypothesis and the recent behaviour of equity prices in Britain

Abstract: This paper is concerned with one of the most illustrious hypotheses examined under the second approach, namely the random walk hypothesis.[3] This hypothesis postulates that the changes in share prices are independent, and hence produce a random walk in price levels. Over time, however, the relative frequency of outcomes is stable. An elaboration of the hypothesis is given in the next section of this article. Recent writers have analyzed not only share price movements but also other speculative price series such as those of commodity prices. Though no universal agreement regarding the validity of the random walk hypothesis as applied to share prices has resulted from these studies, there is a surprising dearth of instances in which it has been refuted unambiguously. Thus, as Rayner has put it, the random walk hypothesis is "in the ascendant".

Measurement Bias in Price Indexes for Capital Goods

Abstract: The official U.S. price deflators for investment goods continue to be based on defective methodology, despite frequent criticism in recent years. This paper contributes new price information, which is combined with the empirical results from other studies to yield a revised investment deflator for the 1954–1963 period which (a) rises much more slowly than the official index and (b) declines relative to a revised price index for consumption expenditures.

Roosevelt's 1933 Monetary Experiment

Abstract: THE period between the inauguration of Franklin Roosevelt and the devaluation of the dollar in January 1934 is in many ways one of the most complex and baffling in twentieth-century United States monetary history. A struggle for monetary control erupted involving the President, the Congress, and the Federal Reserve System. Roosevelt was successful in curbing the threat of direct congressional intervention only after he had agreed to accept broad, new, discretionary monetary powers. The Thomas Amendment to the Farm Relief Act conferred upon the President the power to devalue the dollar, to issue paper money, and to exercise significant influence on the conduct of open market operations. Intervention or the threat of presidential intervention in monetary decision-making understandably made the behavior of Federal Reserve officials less intractable than it was inclined to be. The result of this conflict was that the President assumed direct responsibility for the conduct of monetary policy-precisely what the founders of the system had fought so hard to avoid.' Roosevelt declared in unequivocal terms that the target of monetary policy was to raise prices. To attain that objective, he adopted a policy of exchange rate depreciation, at first by unhitching the dollar from its gold peg, later by a more active policy of purchasing gold in both domestic and foreign markets. What has continued to baffle monetary historians is Roosevelt's temporary conversion to the view of George F. Warren that the price level would rise simply by increasing the purchase price of gold. The gold purchase program had been rejected as fallacious by most of his monetary advisers, by officials in the budget bureau, the treasury, the agriculture department, and the Federal Reserve, as well as by the vast majority of monetary economists.

Rising demand curves in price level theory

Abstract: GEOMETRY still retains some persuasive power in economics; usually the same underlying ideas permeate the more general mathematical models. It appears, however, that contrary to a fairly common practice the demand curve proper for consumer price level theory can run partly the 'wrong way', rising from left to right, rather than following the normal 'law' of price theory.2 It thus partakes a 'Giffen' form with its slope strongly contingent on the elasticity of supply. The analysis carries some overtones for policy as well as for theory.

An econometric model of India, 1948-1961

Abstract: Part 1 Introduction: the macro-model the data the outline. Part 2 A theory of stagnation and growth: a macro-model in a closed economy money in growth growth and the foreign sector the summary. Part 3 The statistical form of the model: production functions employment functions investment functions money, wages and prices miscellaneous equations the model as a whole method of estimation of the parameters of the model - ordinary least squares v. simultaneous equation methods. Part 4 Production and employment: agricultural production function food-grains production function employment function non-agricultural production function. Part 5 Money, wages and prices: the money supply and the absolute price level money wages and prices miscellaneous price equations. Part 6 Investment and foreign trade: investment in the agricultural sector investment in non-agricultural sector foreign trade sector. Part 7 Summary of the results: the model the test statistics results of simultaneous equation methods. Part 8 Applications of the model - a simulation approach: a note on simulation approach prediction within and beyond the sample planning for a target rate of growth analysis of the effects of variation in exogenous variables. Part 9 A note on India's third five year plan. Appendix - the compilation of the data.

A Price Index for Nonfarm One- Family Houses, 1947-64

Abstract: Construction cost indices have often been used to represent changes in house prices because no data on housing transactions, suitable for computing a broad-based index of house prices are available In this article a technique for isolating price changes from estimates of market value is developed and used to derive a price index for nonfarm one-family houses of all types (excluding mobile homes) in the United States for the years 1947-64 Theoretical and empirical evidence is also presented to show that, in general, an index of construction cost would not reflect house prices accurately

The Problem of Accounting for Productivity Change in the Construction Price Index

Abstract: In this article we first construct the input cost and input productivity price index for the Japanese construction industry and note the significant difference between the two. Next, we obtain, together with the two indexes, the output price index for government apartments and find that the input productivity index gives a much better approximation. Our output price index is the hedonistic price index. In the last section we compute capital stock for several industries and briefly discuss the bias in the growth rate of capital in using the input cost index.

De patinkin-puzzle

Abstract: This essay contains a review of the so-called Patinkin controversy which arose about the possible inconsistency of the classical dichotomy model. It can be established that this model is logically consistent and economically reasonable if and only if one is prepared to assume continually existing individual monetary equilibria. A real dichotomization of the economy into two independent sectors, which determine relative prices and the general price level, is therefore out of the question. As opposed to Patinkin and Modigliani the same can be said for a model with no distribution effects and only inside money. Although the real balance effect is not always operative as an adjustment mechanism, it hardly can be suspended in a static long-run model with that limited quantity of uncertainty which is needed for a minimal analysis of an economy with money as a medium of exchange.

Money, Quasi-Money, and Income Velocity of Circulation in Malaya and Singapore, 1947-1965

Abstract: I. Theoretical Analysis of the Demand for Money In modern literature, money is defined in various ways-some inclusive, others exclusive, of time and savings deposits and some even inclusive of other liabilities of nonbank financial intermediaries; and the demand for money is determined by a host of variables. Milton Friedman,' defining money as currency held by the public plus adjusted demand deposits and time deposits of commercial banks, postulates that the demand function for money depends on income, the ratio of nonhuman to human wealth, the price level, the rate of change of price level, bond and equity yields, and a taste variable; and he concludes that the demand for money is similar to that for luxury goods. Latan6,2 defining money in the narrower sense (currency plus demand deposit only), has two equally important variables as the determinants of the demand for money, that is, income and interest rate (represented by long-term, high-grade interest rate), which is an empirical or statistical verification of the Keynesian theory. Meltzer3 postulates that wealth rather than income should be the appropriate

A decision theoretic approach to pricing

Abstract: The problem of price determination and revision is considered as a case of decision making under uncertainty in which profit is to be maximized. Typically price is a simple function of cost which in turn determines the quantity which will be demanded. This paper proposes that maximum profits could be realized in the long run, if a quantity corresponding to the lowest cost per unit of product under the attendant circumstances was fixed and a price established at which demand would exactly equal the fixed quantity. It further suggests a theoretical approach to the determination of this price based on decision theory. The decision theoretic approach considers the set of possible price levels at which demand will equal the fixed quantity of product as the state of nature. The set of acts consist of the establishment of the product price at each of the possible levels. After an initial price is established, empirical information can then be utilized according to some optimal decision rule for subsequent price revisions.

Tight money as a cause of inflation: reply

Abstract: "TIGHT MONEY, Monetary Restraint, and the Price Level" (2) was an attempt to analyze the short-run impact of interest rate movements on the price level within a two-commodity general-equilibrium framework. Hotson's "complaint" (3) involves mainly the empirical implications of the analysis, which he finds unsupported by postwar data. However, he also finds the theoretical treatment of a shift in investment unsatisfactory. I shall discuss this latter point first. Hotson argues (3, pp. 152-3) that my analysis of an increase in investment is selfcontradictory. In the text of my article (2, p. 22), the impact on the general price level is upward; in the appendix (Part C), downward. The text makes quite clear that there are two basic forces acting on the price level following a simultaneous increase in real output and investment due to a rise in the marginal efficiency of capital. One is the traditional deflationary influence of growth, by which additional output and real income shift the demand schedule for real balances to the right. Another is the inflationary influence of the higher natural rate of interest, which results from the increase in the investment schedule. The higher interest rate is traced along the prevailing liquidity preference function, reducing the quantity of real balances demanded. The inflationary influence is assumed to predominate, but a footnote (2, p. 22, n.13) observes that it need not. By contrast, the appendix is an analysis of the "real" forces occurring in the commodity sectors following successive shifts in saving and investment, and abstracting from monetary phenomena. The impact of the disturbances on the price level is examined, assuming that the monetary authority has already offset any influences "due to a reduction in the quantity of real balances demanded" (2, p. 18). Thus any remaining inflation can be attributed to the higher interest rate as a cost and production variable, rather than as a determinant of liquidity preference. I think the text was quite clear on this analytical sequence, although, in retrospect, the appendix could have stated its nonmonetary assumption more explicitly. In any case, on this procedure the inflationary influence is missing in the appendix and only the deflationary force of additional output remains. In the consumption sector, for example, the demand schedule shifts to the right less than supply, causing the price to fall. If Hotson were consistent, he would have also objected to the analysis of a decrease in saving. In the appendix (Part B), average prices are said to remain constant following that disturbance (output in this case is unchanged); in the text (2, p. 18), a reduction in saving, in the absence of offsetting monetary policy, is held to be unambiguously inflationary due to the higher natural rate. Hotson moves swiftly from the analysis, right or wrong, to the data. "According to Horwich's model, this doubling of the rate of interest [from 1947 to 1968] should have led to a fall in the price of capital goods relative to consumer goods. No such pattern is evident . . ." (3, p. 153). At least two objections can be raised to this use of the model. First, it is a short-run apparatus with rising cost curves, inapplicable to such a long time span. For long-run analysis, a complete two-sector

The Inflationary Process : Market-Clearing Approach

Abstract: We come now to the third of our four objectives, the objective of price stability. This was defined in Chapter 1 in a negative way as absence of a persistent upward movement in some appropriate price index. Our ultimate aim in this chapter and the next two is to consider what steps the British authorities can take to promote price stability in this sense. Before we can do this, however, we must clearly have some explanation of how the persistent upward movements in the price level, which constitute absence of price stability, actually come about. One explanation of this phenomenon will be examined in the present chapter and an alternative explanation, which seems more satisfactory for the British economy, in the next. Both of these explanations are strictly short-run in character, i.e. they purport to account for a continuous upward movement in the chosen price index short period by short period (say, month by month or quarter by quarter) over a short reaction interval (say, two or three years), rather than, say, year by year over twenty years (see section 2.2).

Fiscal and Monetary Policy Reconsidered: Comment

Abstract: I accept Robert Eisner's thesis that . . . the tax surcharge should never, on basic theoretical grounds, have been considered an effective anti-inflationary device and that, given a sufficiently excessive rate of government spending, there is little that any meaningful monetary policy can do to stop inflation" (p. 898). I also share his concern that the failures of current policies will turn our fates back to "know-nothings." I am critical not so much of what Eisner says, as of what he omits. Is the Johnson administration's desertion of the "Guideposts" in the presence of the inflationary enemy in 1966 of no -value in explaining our quickened inflation since then? If the administration had escalated that particular effort, had rallied public opinion, had acquired ultimate legal sanctions against noncompliance, would not the inflation have been lessened? George Perry's findings that the guideposts had a "significant" effect on the pace of wage changes (1967, p. 903) appear to have survived all attacks to date.1 Perry found that during 1965 and 1966 the guideposts were reducing wage increases by about 2 percent below what would otherwise be obtained. If this level of effectiveness had been maintained, wage payments would have been reduced by about $10 billion in 1968.2 This is as large as the impact upon demand which was expected from the $10 billion surtax, an impact which Eisner argues did not materialize because the surtax did not change personal and corporate estimates of permanent income (p. 898). Moreover, wage restraint holds down the cost level; in contrast a policy which allows excessive income gains, and then tries to tax them away involves us with barn doors and stolen horses. The "Keynesian" economists would be less discomforted by know-nothings, in my opinion, if they themselves had been closer students of Keynes. No better place for a fresh start for arriving at correct analysis can be found than in the good book General Theory. It is all there: the Phillips curve,3 the guidepost prescription,4 and Keynes' Theory of the Price Level of which so few Keynesians appear to be even aware.

Economic Growth and Price Stability

Abstract: Is there any reason to believe that a stable relationship exists between the rate of economic growth and the pace of inflation such that the more rapid the inflation the more rapid, ceteris paribus the rate of economic growth? If so, is this because rapid inflation contributes to economic growth, or because rapid economic growth contributes to inflation, or both? One way of approaching these important questions, which has been followed in several recent studies,1 is to correlate the percentage increase in real gross domestic product and the percentage increase in the general price level. This approach, however, is bound to be somewhat inconclusive. There are two main reasons for this. In the first place, whatever the country or period studied, it is likely that many important factors, apart from the rate of increase of prices, will have contributed to the observed rate of increase in real gross domestic product, and vice versa. As a result, the findings of the correlation analysis will usually be very difficult to interpret. For example, suppose we observe a high correlation between the percentage increase in the general price level and the percentage increase in real gross domestic product. Does this reflect the existence of a stable positive relationship between inflation and growth; or does it mean that the two were quite unconnected but that the effective determinants of growth and the effective determinants of inflation happened to be operating at just the intensity required to produce the observed high correlation?