No. 5/2004
TESTING FOR A TIME-VARYING PRICE-COST MARKUP IN
THE EURO AREA INFLATION PROCESS

Christopher Bowdler
Eilev S. Jansen

Abstract:
Empirical models of inflation often incorporate equilibrium correction effects
based upon levels of prices and input costs. Such models assume that
the steady-state price-cost markup is constant, but recent research suggests
that this may not be true for the Euro area economy, which has undergone
major structural reforms over the last 25 years. We allow for permanent shifts
in the markup factor through estimating an inflation equation that includes
a time-varying intercept. The model suggests that a reduction in the markup
contributed to disinflation in the Euro area during the period 1981-2000.