LEIBNIZ INSTITUTE OF AGRICULTURAL DEVELOPMENT

IN TRANSITION ECONOMIES

IAAE Symposium 2016| 4 – 6 April

Residual demand elasticity estimates of Russian wheat

exports

Kerstin Marit Uhl

IAAE Symposium 2016 | 4 – 6 April

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Overview

• Motivation

• Research questions

• Literature review

• The residual demand elasticity approach

• Estimation results

• Summary

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Motivation

• Wheat is a staple crop with relevance for food security;

• Differences in import prices suggest market imperfections in

international wheat trade;

• Russia emerged as a major exporter;

• Dependency of several countries on Russian wheat.

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Motivation II

15

020

025

030

035

040

0

imp

ort

price

(U

SD

/t)

2006 2008 2010 2012 2014year

Egypt Armenia

Azerbaijan Georgia

Turkey

Source: Own compilation based on data published by FAOSTAT.

Average wheat import price

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Motivation III

Share of Russian wheat imports in total wheat imports (2006 – 2014)

Concentration ratios of Russian exporters (2006 – 2014)

Egypt Turkey Armenia Azerbaijan Georgia

CR – 4 37 22 67 47 51

CR - 10 63 44 80 62 63

Egypt Turkey Armenia Azerbaijan Georgia

Share in % 34.13 52.40 87.24 42.12 67.20

Source: Own compilations; UN Comtrade, APK Inform.

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Research question

• Are Russian wheat exporters able to price discriminate in

international wheat markets?

• To which extent do they exert market power?

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Literature review

Studies targeting Russian wheat exports:

• Applying Krugman`s (1986) pricing-to-market approach:

– Pall et al. (2013);

– Friebel et al. (2015);

– Gafarova et al. (2015);

• Applying the residual demand elasticity approach:

– Pall et al. (2014).

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RDE study

• Quantification of market power by Russia;

• Countries under study: Egypt, Turkey, Armenia, Azerbaijan,

Georgia;

• Analysis based on weekly data over 2006 - 2014.

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Theoretical background

• Baker & Bresnaham’s (1988) residual demand elasticity (RDE) approach:

– A downward-sloping RD implies that a seller can influence the export

price by choosing its export quantity;

– Estimation of an exporter’s RDE;

– Absolut value of the RDE bears information regarding the extent of

market power.

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Theoretical background II

• Wheat exporting countries face the following inverse demand functions:

• 𝑃1 , 𝑃2 and 𝑃3 are export prices of exporting country 1, 2, and 3;

• 𝑄1, 𝑄2 and 𝑄3 are export quantites of competitor 1, 2, and 3;

• 𝐷1, 𝐷2, 𝐷3 are wheat demand functions of country 1, 2, and 3;

• 𝑍 is a vector of demand shifters in the export destination;

• 𝛼1, 𝛼2, and 𝛼3 are price elasticities.

(1) 𝑃1 = 𝐷1 𝑄1, 𝑄2, 𝑄3, 𝑍, 𝛼1

(2) 𝑃2 = 𝐷2 𝑄1, 𝑄2, 𝑄3, 𝑍, 𝛼2

(3) 𝑃3 = 𝐷3 𝑄1, 𝑄2, 𝑄3, 𝑍, 𝛼3

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Theoretical background III

• Profit maximization problem (exemplary for exporting country 2):

• 𝐶2 is country 2‘s cost function;

• 𝑊2 is a vector of country-specific factor prices;

• 𝑊 is a vector of industry-wide factor prices;

• 𝛽2 are parameters.

(4) 𝑚𝑎𝑥 П2𝑄2 = 𝑄2 ∗ 𝑃2 𝑄1, 𝑄2, 𝑄3, 𝑍, 𝛼

2 − 𝐶2 𝑄2,𝑊,𝑊2, 𝛽2

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Theoretical background IV

• Country 2‘s FOC yields the following optimality condition (𝑃𝑀𝑅 = 𝑀𝐶):

• 𝜃1 is a conduct variable regarding the behaviour of all exporters but state 1.

(5) 𝑃2 𝑄1, 𝑄2, 𝑄3, 𝑍, 𝛼2, 𝜃1 +

𝑄2 𝜕𝑃2 𝜕𝑄2 + 𝜕𝑃2 𝜕𝑄1 ∗ 𝜕𝑄1 𝜕𝑄2 + 𝜕𝑃2 𝜕𝑄3 ∗ 𝜕𝑄3 𝜕𝑄2 = 𝑀𝐶2 𝑄2,𝑊,𝑊2, 𝛽2

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Theoretical background IV

• Country 1‘s RD curve is derived by solving the demand and supply equations of

exporting countries 2 and 3 simultaneously:

• 𝑸 is the sum of 𝑄2 and 𝑄3, 𝐸−1 is the equilibrium quantity of all 1‘s competitors;

• Replacing (6) in (1) yields:

• Substituting out the redundancies yields:

• 𝑅1 means inverse residual demand of exporting country 1.

(6) 𝑸 = 𝐸−1 𝑄1, 𝑍,𝑊2,𝑊3,𝑊, 𝛼2, 𝛼3, 𝛽2, 𝛽3, 𝜃2, 𝜃3

(7) 𝑃1 = 𝑃1 𝑄1, 𝐸−1 𝑄1, 𝑍,𝑊2,𝑊3,𝑊, 𝛼2, 𝛼3, 𝛽2, 𝛽3, 𝜃2, 𝜃3 , 𝑍, 𝛼1

(8) 𝑃1 = 𝑅1 𝑄1,𝑊2,𝑊3,𝑊, 𝑍, 𝛼, 𝛽2, 𝛽3, 𝜃2, 𝜃3

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Econometric implementation

• Eq. (8) is typically estimated in a log-linear transformation:

• 𝜂 is a parameter, and 𝜶, 𝜷, 𝝑, and 𝜹 vectors of parameters to be estimated, ε𝑡 is

the error term;

• Interpretation of 𝜂:

– Zero estimate: perfectly elastic RD perfect competition

– Negative sign: RD curve has a negative slope imperfect competition

(9) ln 𝑃𝑡1 = 𝜂 ln𝑄𝑡

1 + 𝜶 ln 𝑍 + 𝜷 ln𝑊𝑡 + 𝝑 ln𝑊𝑡1 + 𝜹 ln𝑊𝑡

3 + ε𝑡

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Econometric implementation II

• Price and quantity are determined simultaneously:

𝑄𝑡1 has to be instrumented;

Goldberg and Knetter (1999) propose cost shifters as instrument;

• Criteria for the selection of instruments:

Relevance ;

Validity;

• Estimation method:

GMM;

2SLS.

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Econometric implementation III

Variables included in the econometric model

Cost shifters Egypt Turkey Armenia Azerbaijan Georgia

Exchange rate USA X X

Exchange rate France X

Exchange rate Ukraine X X X

Exchange rate Kazakhstan X X X X

Export price USA X X

Export price France X

Producer price Ukraine X X X X

Producer price Kazakhstan X X X X

Oil price X X X X X

Export ban Kazakhstan X X X X

Export tax Ukraine X X X

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Econometric implementation IV

Variables included in the econometric model

Demand shifters Egypt Turkey Armenia Azerbaijan Georgia

Real GDP per capita X X X X X

CPI food X X

Wheat retailer price X X X

Time X

Other variables Egypt Turkey Armenia Azerbaijan

Georgia

Dummy season X X X X X

Dummy currency depreciation

X

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Econometric implementation V

Selected instruments

Notes: Ban Russia is a dummy variable for the period of Russian wheat export ban (15.08.2010 - 30.06.2011); Tax Russia is equal to the export tax rate (10 (12.11.2007 - 30.04.2008), 40 (29.01.2008 – 30.06.2008), and 0 otherwise; Q Caucasus is the total Russian wheat export quantity to the Caucasus; War GEO is a dummy variable for the period of war between Russia and Georgia (07.08.2008 - 16.08.2008); PP Russia is the Russian wheat producer price.

Instrument Egypt Turkey Armenia Azerbaijan Georgia

Ban Russia X X X X X

Tax Russia X X X X X

Q Caucasus X

War GEO X

PP Russia X

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Econometric implementation VI

Statistics regarding relevance and validity of chosen instruments

Notes: Criteria for relevance of instruments: F-value of first-stage regression; criteria for validity:

Test of overidentifying restriction (H0: Overidentifying restrictions are valid): Hansen’s J statistic

(Egypt, Turkey, Azerbaijan, Georgia) and Sargan test (Armenia); term in brackets are p-values.

Selection criteria

Egypt Turkey Armenia Azerbaijan Georgia

Relevance 50.74 [0.0000]

24.31 [0.0000]

8.63 [0.0000]

43.97 [0.0000]

30.53 [0.0000]

Validity 1.16251 [0.2809]

0.583754 [0.7469]

5.84852 [0.0537]

0.932238 [0.3343]

2.29768 [0.3170]

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Data

• Estimations based on a weekly dataset provided by APK Inform;

• Data period: 2006 week 1 – 2014 week 52;

Number of observations

Egypt Turkey Armenia Azerbaijan Georgia

348 328 269 388 349

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Contact:

Kerstin Marit Uhl Leibniz Institute of Agricultural Development in Transition Economies

Tel: +49 345 29 28 570 Fax: +49 345 29 28 299 Address: Theodor-Lieser Str. 2, 06120 Halle Saale, Germany email: uhl@iamo.de www.iamo.de

https://twitter.com/iamoLeibniz #SilkRoadConf

https://www.facebook.com/iamoLeibniz/

Thank you for your attention !

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Selected estimation results

Variable Egypt Turkey Armenia Azerbaijan Georgia

Export q RUS -0.0261 -0.1039*** -0.1457*** -0.0181 -0.1608***

ER KZT -0.0153 0.6771*** 0.2510 0.2150

ER UAH 0.3262*** 0.4852*** 0.6880***

PP KAZ 0.1258*** 0.7164*** 0.4818*** 0.0830

PP UKR 0.4117*** 0.5234*** 0.6878***

Export p FR 0.4732***

Export p US 0.1206** 0.4214***

GDP_r_cap 0.2837*** 0.3011** -0.1552 0.2359 0.4695

CPI_food -1.7418*** -0.0615

Wheat RP 4.1222*** 1.9810*** 0.6534**

Dummy season

-0.0022 0.0685*** 0.0941** -0.1119 0.1340***

Notes: Export q RUS abbreviates Russian wheat export quantity; ER KAZ, ER UAH are the exchange rates in national currency per KZT and UAH, respectively; PP KAZ and PP UKR are the Kazakh and Ukrainian wheat producer prices; Export p FR and Export p US are the French and US wheat export prices; GDP_r_cap is the real GDP per capita of the importing country; CPI_food is the CPI for food; Wheat RP is the wheat retailer price in the importing country, and Dummy season is a dummy variable capturing seasonal effects.

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Conclusion

• Evidence for Russian market power in Armenia, Georgia, and Turkey based on RDE estimation;

• No evidence for Russian market power in Egypt, and Azerbaijan;

• Considerable differences in wheat import prices among these five countries:

– Turkey pays highest wheat import prices;

– Azerbaijan pays lowest wheat import prices;

• High dependency of Caucasus on Russian wheat imports:

– Armenia (87 %), Azerbaijan (42%), Georgia (67%);

• Concentration ratios of Russian wheat imports high in Armenia, and moderate in other states;

• Estimation results in line with Hotelling’s model of spatial price discrimination.

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References

• Baker, J. B. and T. F. Bresnaham. 1988. Estimating the residual demand curve facing a single firm. International Journal of Industrial Organization 6 (3): 283-300.

• Friebel, K. M., O. Perekhozhuk and T. Glauben. forthcoming. Price discrimination in Russian wheat exports: evidence from firm-level data, Journal of Agricultural Economics.

• Gafarova, G., Perekhozhuk and T. Glauben. 2015. Price discrimination and pricing-to-market behavior of Black Sea region wheat exporters, Journal of Agricultural and Applied Economics 47 (3): 287-316.

• Goldberg P. K. and M. M. Knetter. 1999. Measuring the intensity of competition in export markets. Journal of International Economics 47 (1): 27-60.

• Knetter, M. M. 1995. Pricing to market in response to unobservable and observable shocks, International Economic Journal 9 (2): 1-25.

• Krugman, P. 1986. Pricing to market when the exchange rate changes. Working Paper No. 1926, Cambridge MA, National Bureau of Economic Research.

• Pall, Z., O. Perekhozhuk, R. Teuber, and T. Glauben. 2013. Are Russian wheat exporter able to price discriminate? Empirical evidence from the last decade, Journal of Agricultural Economics 64 (1): 177-196.

• Pall, Z., O. Perekhozhuk, R. Teuber, T. Glauben, S. Prehn and R. Teuber. 2014. Residual demand measures of market power of Russian wheat exporters, Agricultural Economics 45 (3): 381-391.

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Appendix I: Summary statistics

Egypt Mean Std. Dev.

Quantity 9.28e+07 7.06e+07

Price_t_USD 217.5908 59.69476

GDP_real_capita 70.11422 7.272818

CPI_food 101.069 1.588793

Oil price 86.24373 22.66057

EGP_EUR 7.96857 0.7959349

EGP_USD 5.955326 0.5832629

EGP_UAH 0.8234815 0.1885084

Export price US 239.4046 61.1048

Export price France 182.8693 46.81779

Producer price Ukr 1514.784 558.1194

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Appendix I: Summary statistics II

Turkey Mean Std. Dev.

Quantity 5.14e+07 4.04e+07

Price_t_USD 227.3142 52.79223

GDP_real_capita 15.62338 1.686969

CPI_food 100.87 1.636161

Oil price 89.12971 22.82146

TRY_USD 1.691748 0.2999471

TRY_UAH 0.2168697 0.0314591

TRY_KZT 0.0112941 0.0010962

Export price US 248.8812 54.28319

Producer price Ukr 1640.474 544.1551

Producer price Rus 6397.973 2087.246

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Appendix I: Summary statistics III

Armenia Mean Std. Dev.

Quantity 7400618 6147196

Price_t_USD 225.2358 78.5632

GDP_real_capita 6034.367 671.1075

Wheat RP 100.2888 2.657507

Oil price 99.8131 4.28485

AMD_KZT 2.581234 0.2475405

Producer price Kaz 23479.49 6116.872

Quantity_Cauc_Rus 3.21e+07 2.10e+07

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Appendix I: Summary statistics IV

Azerbaijan Mean Std. Dev.

Quantity 1.19e+07 1.25e+07

Price_t_USD 225.189 72.76159

GDP_real_capita 18.79507 3.059922

Wheat RP 100.7774 3.267009

Oil price 99.83092 3.963304

AZN_KZT 0.0057053 0.0009595

Producer price Kaz 23130.82 6705.376

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Appendix I: Summary statistics V

Georgia Mean Std. Dev.

Quantity 1.10e+07 7938890

Price_t_USD 220.5163 54.47653

GDP_real_capita 19.66704 2.294259

Wheat RP 100.3957 2.901382

Oil price 99.92719 4.046399

GEL_UAH 0.2444999 0.0787526

GEL_KZT 0.0119996 0.0019218

Producer price Ukr 1516.795 594.8149

Producer price Kaz 22660.03 6967.728

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Appendix II: Estimation results

Variable Egypt Turkey Armenia Azerbaijan Georgia

Export q RUS -0.0261 -0.1039*** -0.1457*** -0.0181 -0.1524***

ER KZT -0.0153 0.6771*** 0.2510 0.2540

ER UAH 0.3262*** 0.4852*** 0.6792***

PP KAZ 0.1258*** 0.7164*** 0.4818*** 0.0888

PP UKR 0.4117*** 0.5234*** 0.6981***

Export p FR 0.4732***

Export p US 0.1206** 0.4214***

GDP_r_cap 0.2837*** 0.3011** -0.1552 0.2359 0.4435

CPI_food -1.7418*** -0.0615

Wheat RP 4.1222*** 1.9810*** 0.6281**

Oil price -0.1327 -0.3113* 0.1229 0.4462 0.1972

Dummy season -0.0022 0.0685*** 0.0941** -0.1119 0.1317***

Ban Kazakhstan -0.0172 -0.1197 -0.0170 -0.0609

Tax Ukraine -0.0044* -0.0082*** -0.0061

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Appendix II: Estimation results II

Variable Egypt Turkey Armenia Azerbaijan Georgia

Time 0.0022***

Depreciation 1 -0.5957***

Depreciation 2 -0.8786***

Constant 6.9470*** 0.8373 -13.5411*** -15.2422*** -1.7357

Egypt Turkey Armenia Azerbaijan Georgia

Number of obs 348 328 269 388 349

R squared 0.9376 0.8927 0.4654 0.5257 0.4942

Adj. R squared 0.9354 0.8882 0.4490 0.5118 0.4776