Production Approach Markup Estimators Often Measure Input Wedges

Abstract

Output and input market distortions manifest as wedges in the firm's first order conditions. The production approach to markup estimation recovers the markup wedge using the output elasticity for a variable and undistorted input. We show that using the revenue elasticity for any variable input, undistorted or distorted, instead recovers that input's wedge. Our result has two important implications. First, existing findings using the revenue elasticity should be reinterpreted as evidence of input, rather than output, market distortions. Second, future work can use the production approach to study input wedges even when only revenue elasticities are known.