Contract Duration and the Costs of Market Transactions

[Job Market Paper]
The duration of a vertical relationship depends on two types of costs: (i) the transaction costs of re-selecting a supplier and (ii) the cost of being matched to an inefficient supplier when the relationship lasts too long. For commodified goods and services, this tradeoff can be the primary determinant of the duration of supply contracts. I develop a model of optimal contract duration that captures this tradeoff and quantifies the costs of market transactions. These (unobserved) costs are identified even when the exact market mechanism is unknown. I estimate the model using federal supply contracts and find that transaction costs are a significant portion of total buyer costs. I use the structural model to estimate the value of the right to determine duration to the buyer, compared to a standard duration. Finally, a counterfactual analysis illustrates why quantifying transaction costs is important for the accurate analysis of welfare.

Instrument-Free Demand Estimation

with Nathan H. Miller

We consider the identification and estimation of demand systems in models of imperfect competition. Under the usual assumption of profit maximization, the bias that arises from price endogeneity can be resolved without the use of instruments. In many standard demand systems, we show that the biased coefficient from an ordinary least squares regression of (transformed) quantity on price can be expressed as function of the structural demand parameters. With a covariance restriction on unobservable shocks, these parameters can be identified. Further, it can be possible to place bounds on the structural parameters without imposing a covariance restriction. We illustrate the methodology with applications to the cement industry and the airline industry.

An Empirical Model of Consumer Affiliation and Dynamic Price Competition

with Marc Remer

We study the pricing decision of firms when consumers may become ``affiliated'' with previously purchased products. Affiliation can arise from habit formation, brand loyalty, or switching costs, and it has important implications for the interpretation of equilibrium outcomes and counterfactual analysis. We analyze the effect of affiliation in the context of mergers, and we show that a (misspecified) static model will predict price effects larger than those generated by the dynamic model. The dynamic incentive to invest in future demand tends to suppress post-merger price increases. We develop an empirical model of dynamic demand that can be estimated independently from supply-side assumptions and uses only market-level data. By estimating the model without supply-side assumptions, we are able to test for forward-looking behavior by firms. Using a hypothetical merger of two major retail gasoline companies that anticipate habit formation by their consumers, we find that a static model predicts a price increase substantially greater than the price increase predicted when accounting for dynamics.

The Long-Run Dynamics of Electricity Demand: Evidence from Municipal Aggregation

with Tatyana Deryugina and Julian Reif

[NBER Working Paper 23483]

Revision requested,*American Economic Journal: Applied Economics*
We study the dynamics of residential electricity demand by exploiting a natural experiment that produced large and long-lasting price changes in over 250 Illinois communities. Using a flexible difference-in-differences matching approach that accounts for the effect of current, past, and future price changes on current demand, we estimate a one-year price elasticity of -0.16, a two-year elasticity of -0.22, and a long-run elasticity between -0.31 and -0.35. We also provide compelling evidence that consumers increased electricity usage ahead of these announced price changes. Our findings highlight the importance of accounting for consumption dynamics when evaluating energy policy.

The Empirical Effects of Minimum Resale Price Maintenance

with David Aron Smith

This study is the first to estimate the empirical effects of minimum resale price maintenance (RPM) across a broad variety of products. We analyze conflicting theories using an exogenous state-level law change resulting from the 2007 *Leegin* Supreme Court decision. In states where RPM contracts are treated under the more relaxed rule-of-reason standard, prices increased. Through a series of tests, we find little support for the broad application of any particular theory.

[Job Market Paper]

Instrument-Free Demand Estimation

with Nathan H. Miller

An Empirical Model of Consumer Affiliation and Dynamic Price Competition

with Marc Remer

The Long-Run Dynamics of Electricity Demand: Evidence from Municipal Aggregation

with Tatyana Deryugina and Julian Reif

[NBER Working Paper 23483]

Revision requested,

The Empirical Effects of Minimum Resale Price Maintenance

with David Aron Smith

Challenges for Empirical Research on RPM

with David Aron Smith

*Review of Industrial Organization*, Vol. 50, No. 2 (2017), 209–220.
This article discusses the empirical challenges that researchers face when demonstrating the existence and effects of resale price maintenance (RPM). We outline three approaches for finding price effects of RPM and the corresponding hurdles in data and methodology. We show that the quantity test that was suggested by Posner (1977; 1981) does not identify the change to welfare when demand-enhancing effects are considered generally. Finally, we present some solutions to the challenge of identifying welfare effects, and we suggest guidelines for future research.

Bias in Reduced-Form Estimates of Pass-Through

with Nathan H. Miller, Marc Remer, and Gloria Sheu

*Economics Letters*, Vol. 123, No. 2 (2014), 200-202.
This paper addresses the conditions under which cost pass-through can be estimated accurately with reduced-form regressions of price on cost. Our main result is that a reduced-form regression of price on costs - the standard methodology for pass-through estimation - does not guarantee a consistent estimate under the usual assumption that observed cost measures are uncorrelated with other determinants of cost. We provide sufficient conditions for consistency, and we derive a formal approximation for the asymptotic bias under the standard assumption of orthogonality. We provide guidance on the conditions under which bias may frustrate inference.

with David Aron Smith

Bias in Reduced-Form Estimates of Pass-Through

with Nathan H. Miller, Marc Remer, and Gloria Sheu

Contracts as a Barrier to Entry: Evidence from a Newly Deregulated Market
In a newly deregulated market for retail electricity, suppliers offer a discount for signing two-year contracts compared to one-year contracts. The discount anticipates entry in the market; greater entry during the first year of the contract corresponds to a larger discount for a two-year term. The market experiences an expansion phase followed by a maturation phase in which unsuccessful firms exit. As the number of suppliers falls, firms no longer offer a discount on the two-year contract; instead, they charge a premium. The observed pricing behavior is consistent with an incentive to discourage entry, as in Aghion and Bolton (1987).