C© 2008 The Author

This paper uses representative firm level panel data of 1,701 Bulgarian and 2,047 Romanian manufacturing firms to estimate market power (i.e. price-cost margins) and to analyze how these are affected by privatization and increased competitive pressure. In contrast to earlier work that analyzes the effect of ownership on firm performance, the estimation method we use deals with potential endogeneity problems that are associated with estimating firm performance, by making use of the properties of the primal and dual Solow residual. State owned enterprises have lower price-cost margins than privatized and foreign owned firms, which suggests that state owned enterprises price closer to marginal costs and are more concerned with maximizing social welfare (allocative efficiency). An alternative interpretation is that state owned firms have higher costs than private firms. Foreign owned firms have the highest price-cost margins. Also privatized domestic owned firms have higher price-cost margins than state owned enterprises