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Food Marketing Policy Center Measuring Market Power In The Ready-To-Eat Cereal Industry By Aviv Nevo University of California, Berkeley Food Marketing Policy Center Research Report No. 37 July 1998 Research Report Series University of Connecticut Department of Agricultural and Resource Economics FOOD MARKETING POLICY CENTER RESEARCH REPORT SERIES This series includes final reports for contract research conducted by Policy Center Staff. The series also contains research direction and policy analysis papers. Some of these reports have been commissioned by the Center and are authored by especially qualified individuals from other institutions. (A list of previous reports in the series is given on the inside back cover.) Other publications distributed by the Policy Center are the Working Paper Series, Journal Reprint Series for Regional Research Project NE-165: Private Strategies, Public Policies, and Food System Performance, and the Food Marketing Issue Paper Series. Food Marketing Policy Center staff contribute to these series. Individuals may receive a list of publications in these series and copies of Research Reports are available for $10.00 each, $5.00 for students. Call or mail your request at the number or address below. Please make all checks payable to the University of Connecticut. Food Marketing Policy Center 1376 Storrs Road, U-21 University of Connecticut Storrs, CT 06269-4021 Tel: (860) 486-1927 FAX: (860) 486-2461 email: [email protected] http://vm.uconn.edu/~wwware/fmktc.html Measuring Market Power In The Ready-To-Eat Cereal Industry By Aviv Nevo University of California, Berkeley Food Marketing Policy Center Research Report No. 37 July 1998 Department of Agricultural and Resource Economics University of Connecticut Table of Content Tables.............................................................................................................................................................. iii Acknowledgements.......................................................................................................................................... iv Abstract........................................................................................................................................................... iv 1. Introduction................................................................................................................................................1 2. The Ready-to-Eat Cereal Industry............................................................................................................... 3 2.1 History and Background........................................................................................................................ 3 2.2 The Industry Today............................................................................................................................... 4 3. Empirical Framework.................................................................................................................................. 5 3.1 Supply................................................................................................................................................... 6 3.2 Demand ................................................................................................................................................ 7 4. Data and Estimation.................................................................................................................................... 9 4.1 The Data............................................................................................................................................... 9 4.2 The Estimation Algorithm ................................................................................................................... 10 4.3 Instruments ......................................................................................................................................... 11 4.4 Brand-Specific Dummy Variables........................................................................................................ 12 5. Results........................................................................................................................................................ 13 5.1 Logit Results....................................................................................................................................... 13 5.2 Results of the Full Model .................................................................................................................... 14 5.3 Price Cost Margins.............................................................................................................................. 17 6 Conclusions .............................................................................................................................................. 18 References...................................................................................................................................................... 18 Appendix A .................................................................................................................................................... 19 Appendix B .................................................................................................................................................... 21 ii Tables and Figures Table 1A Volume Market Shares .................................................................................................................... 22 Table 1B Sales Market Shares......................................................................................................................... 22 Table 1C Price Indexes ................................................................................................................................... 23 Table 2A Aggregate Estimates of Production Costs ........................................................................................ 23 Table 2B Detailed Estimates of Production Costs............................................................................................ 24 Table 3 Description of IRI Infoscan Data Base................................................................................................ 24 Table 4A Prices and Market Shares of Brands in Sample................................................................................. 25 Table 4B Characteristics of Brands in Sample ................................................................................................. 25 Table 4C Demographic Variables.................................................................................................................... 25 Table 5 Brands in Sample................................................................................................................................ 26 Table 6 Results from LOGIT Demand............................................................................................................. 27 Table 7A Results from the Full Model............................................................................................................. 28 Table 7B Results from the Full Model............................................................................................................. 29 Table 8 Estimated Demand Elasticities............................................................................................................ 30 Table 9 Median Own and Cross Price Elasticity .............................................................................................. 31 Table 10 Median Margins ............................................................................................................................... 31 Figure 1.......................................................................................................................................................... 32 Figure 2.......................................................................................................................................................... 32 Figure 3.......................................................................................................................................................... 33 Figure 4.......................................................................................................................................................... 33 iii Acknowledgements This paper is based on various chapters of my 1997 Harvard University Ph.D. dissertation. Special thanks to my advisors, Gary Chamberlain, Zvi Griliches and Michael Whinston for guidance and support. I wish to thank Ronald Cotterill, the director of the Food Marketing Policy Center in the University of Connecticut, for sharing with me his data. I am grateful to Steve Berry, Ernst Berndt, Tim Bresnahan, David Cutler, Jerry Hausman, Igal Hendel, Kei Hirano, John Horn, Joanne McLean, Ariel Pakes, Sadek Wahba, Frank Wolak, Catherine Wolfram, and participants in several seminars in the US and Europe, for comments and suggestions. Financial support from the Graduate School Fellowship Fund at Harvard University and the Alfred P. Sloan Doctoral Dissertation Fellowship Fund is gratefully acknowledged. Address for correspondence, 549 Evans Hall #3880, Department of Economics, UC-Berkeley, Berkeley, CA 94720-3880, e-mail: [email protected] Abstract The ready-to-eat cereal industry is characterized by high concentration, high price-cost margins, large advertising to sales ratios, and numerous introductions of new products.