Why are Prices Falling Fast? An Empirical Study of the US Digital Camera Market

This paper aims to address the reasons behind the rapid price declines generally experienced in new durable goods markets. It develops an equilibrium model that separates price declines caused by cost reductions from those caused by declines in markups. The model distinguishes itself from the existing literature by explicitly incorporating the interaction between consumers’forward-looking behavior and …rms’dynamic pricing policies. In the model, heterogeneous consumers adopt the products in diverse patterns and the changing consumer mix in residual demand is taken into account in …rms’price decisions. The actual prices are thus the equilibrium outcome consistent with both demand and supply dynamics. The paper also proposes tractable estimation strategies that are free of solving for equilibrium and the large dimensionality of the state space. Using a newly collected dataset from the US digital camera market, the paper …nds that cost reductions account for an average of only two thirds of the price declines in this market. The remaining one third of the price declines are due to the declines in markups. Further decomposition of the sources of falling markups can be conducted in a variety of counterfactual analyses. I am deeply indebted to my dissertation committee, Professor Steven Berry, Professor Judith Chevalier and Professor Gautam Gowrisankaran for their tremendous support and generous help. I am also grateful to Je¤ Jordan of the NPD Group and Dimitrios Delis of the PMA for making the dataset available. All errors are my own.