MARK-UP PRICING AND THE BUSINESS CYCLE: THE MICROFOUNDATION OF THE VARIABLE MARK-UP

The purpose of this dissertation is twofold. First, an alternative microfoundation for mark-up pricing over the business cycle is developed. Second, the macroeconomic implications of this microfoundation are examined and an alternative theory of the relationship between mark-up pricing and accumulation is advanced. Three major hypotheses are considered. It is hypothesized that an optimal cyclical pricing policy for an oligopolistic price leader faced with dynamic cost and demand behavior and international competition is a variable mark-up. That is, the mark-up rises from initial trough until the midexpansion of the typical business cycle and then declines from that point until the terminal trough. Secondly, it is hypothesized that increases in the degree of competition increase the cyclical flexibility of the optimal mark-up policy. That is, the absolute value of mark-up expansion and contraction amplitudes increase as competition intensifies. Thirdly, it is hypothesized that the relationship between mark-up pricing and accumulation is a contradictory one. That is, the variable mark-up solution serves as the microfoundation for a profit squeeze theory of the business cycle. A critical evaluation of the post-Keynesian pricing and accumulation literatures serves as the basis for the alternative micro model developed. The model effectively integrates the interaction between a dynamic cost structure and competitive constraints on pricing by considering the trade-off between the mark-up and market share that occurs in the maximization of present value. In an extension of the model, the linkage between the firm\u27s investment and mark-up decisions is considered. The model shows that such behavior is responsible for a business cycle. Support for the hypotheses is obtained from simulation results and empirical evidence on profit margins and international competition compiled for five business cycles between 1949 and 1975