The prices of material and intermediate inputs in UK manufacturing: identifying the contributions of world prices and domestic factor costs

In this article, we explore the patterns and determinants of the prices of raw material and intermediate inputs (MIIs) to UK manufacturing as measured by the net (n) and gross (g) producer price indexes of materials and fuels (PIMF). Despite the importance of MII in total manufacturing costs their prices have been little studied. It is shown that these prices are Granger independent of the demand for such inputs and thus a simple cost based model of price determination is constructed. This model forecasts that MII prices are functions of world prices for oil, commodities and semi-manufactured products intermediated by exchange rates and duties, domestic factor prices and a trend reflecting domestic technical change, changes in mark ups and change in weights. By the means of an error correction representation it is found that PIMFn and PIMFg, in the long and short-run, are more sensitive to overseas-determined prices (of oil, commodities and semi-manufactured products) than domestically determined prices (labour, capital and the trend). It may be argued that to some considerable degree therefore the prices of material and intermediate inputs in UK manufacturing will not be particularly sensitive to policy actions.