Market Power in Australian Manufacturing Industry: A Confirmation of Hall's Hypothesis

Robert Hall (1986, 1988, and 1990) has emphasised the importance of imperfect competition and economies of scale in explaining procyclical movements in measured total factor productivity in US industries. In contrast to the labour hoarding hypothesis and real business cycle theorists, he cites the observed procyclical movement in total factor productivity in US industries as evidence against perfect competition, revealing that prices substantially exceed marginal costs. Following the work of Hall (1986, 1988 and 1990), his paper investigates whether the procyclical movements in total productivity in Australian manufacturing industries provide some evidence for a particular type of market structure. The main contribution of this paper is the provision of a formal explanation for the difference between the estimated markup ratios and returns to scale by using value added data and gross output data, as highlighted in the work of Domowitz, Hubbard and Peterson (1988), Norrbin (1993) and Basu and Femald (1995, 1997). Our formal explanation shows that, with the use of value added data, the estimated Solow residual (and hence the markup ratios) are almost twice as large as those obtained with gross output data, because of the two different production functions involved in estimating the Solow residual. Moreover, the main results of the paper, based on the value added data, indicate that the price of most Australian manufacturing industries exceeds their marginal costs, as in the case of the US industries. The highest markup ratios are reported by the chemical and the iron and steel industries. The results also provide evidence that the textile, non-mineral products, other transport and photographic and scientific industries behave as competitive industries.