Wednesday, October 6, 2010
Public Policy and Market Competition: How the Master Settlement Agreement Changed the Cigarette Industry
Posted by D. Daniel Sokol
Federico Ciliberto (Virginia) Nicolai V. Kuminoff (Arizona State) explore Public Policy and Market Competition: How the Master Settlement Agreement Changed the Cigarette Industry.
ABSTRACT: This paper investigates the large and unexpected increase in cigarette prices that followed the 1997 Master Settlement Agreement (MSA). We integrate key features of rational addiction theory into a discrete-choice model of the demand for a differentiated product. We find that following the MSA firms set prices on a more elastic region of their demand curves. Using these estimates, we predict prices that would be charged under a variety of industry structures and pricing rules. Under the assumptions of firms’ perfect foresight and constant marginal costs, we fail to reject the hypothesis that firms collude on a dynamic pricing strategy.