The Structural Effects of State Regulation of Retail Fluid Milk Prices: A Comment

Abstract

In the May 1980 issue of this REVIEW, Masson and DeBrock (M-D) examine state regulation of fluid-milk retail prices. Although there have been numerous studies on this same topic, their econometric model is by far the most sophisticated, being the first to use a simultaneous system of equations to reveal the structural implications of this form of regulation. M-D test two hypotheses: (a) that regulation raises price, attracting entry and reducing plant scale, and (b) that deregulation temporarily plunges price below its longrun unregulated level.' My first objective here is to show that, when correctly interpreted, M-D's theoretical model implies that the short-run deregulated price may lie above or below the long-run unregulated price, not necessarily below it as the authors infer. My second objective is to retest their hypotheses after making a number of corrections and improvements in their data. As we shall see, my results are supportive of the authors' claims that regulation raises price and decreases plant scale. However, I do not find that market entry can be attributed to regulation unless a decision is made to exclude North Dakota, where two-thirds of the firms actually exitedl during the regulated period. As shown below, this decision hangs on whether 21 months was or was not sufficient time in which to build a processing plant. Like North Dakota, New Jersey also plays a pivotal role. Evidence presented below indicates that M-D misclassified New Jersey (a regulated state) when labeling it deregulated. This mistake alone can explain their finding that deregulation causes price to temporarily drop below the long-run unregulated price level.