An analysis of asymmetric consumer price responses and asymmetric cost pass-through in the French coffee market

Abstract

We analyze empirically a possible channel for the existence of asymmetric price-cost pass-through, that is, of prices responding differently to negative and positive upstream cost shocks. While asymmetric price-cost pass-through has been documented in many markets, possible causes for such a phenomenon have not empirically investigated. Using consumer panel data in the coffee retail sector in France, we estimate a demand model structurally allowing for asymmetric consumer responses to positive and negative retail price changes. According to the demand estimates, we indeed Þnd signiÞcant evidence that consumers react differentially to positive and negative price movements, in that demand is less sensitive (elastic) to price increases than to price decreases. Then using counterfactual simulations within an equilibrium model of demand and supply side behavior we empirically investigate to what extent the existence of the estimated demand asymmetries contributes to asymmetric responses of equilibrium prices of imperfectly competing Þrms given upstream negative and positive cost shocks. We do so by simulating positive and negative costs shocks, given the estimated demand model with asymmetric demand responses. We compare the changes in prices to changes in prices resulting from the same magnitude of cost shocks in an alternative demand structure without demand asymmetries. Our Þndings suggest that not allowing for asymmetries in demand imply similar magnitudes of simulated price-cost pass-through rates. However, when allowing there to be demand asymmetries, a positive cost shock is passed through to a larger degree to retail prices than a negative cost shock of the same magnitude. Our Þndings imply that the shape of the demand explains observed asymmetric price transmission of cost shocks in the context of imperfectly competitive markets