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PRODUCTION FUNCTION ESTIMATION WITH UNOBSERVED INPUT PRICE DISPERSION
Author(s) -
Grieco Paul L. E.,
Li Shengyu,
Zhang Hongsong
Publication year - 2016
Publication title -
international economic review
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 2.658
H-Index - 86
eISSN - 1468-2354
pISSN - 0020-6598
DOI - 10.1111/iere.12172
Subject(s) - econometrics , proxy (statistics) , profit maximization , economics , price dispersion , production (economics) , dispersion (optics) , estimation , productivity , profit (economics) , production function , maximization , function (biology) , statistics , microeconomics , mathematics , macroeconomics , physics , management , evolutionary biology , biology , optics
We propose a method to consistently estimate production functions in the presence of input price dispersion when intermediate input quantities are not observed. We find that the traditional approach to dealing with unobserved input quantities—using deflated expenditure as a proxy—substantially biases the production estimates. In contrast, our method controls for heterogeneous input prices by exploiting the first‐order conditions of the firm's profit maximization problem and consistently recovers the production function parameters. Using our preferred method, we provide empirical evidence of significant input price dispersion and even wider productivity dispersion than is estimated using proxy methods.