Introduction Measuring intra-industry trade Dixit-Stiglitz demand Demand effects; income, price elasticity, and price index Increasing returns to scale Optimal pricing and zero profits Explaining intra-industry trade An alternative interpretation: intermediate goods Conclusions CHAPTER 10; INTRA - INDUSTRY TRADE International Trade & the World Economy; Charles van Marrewijk
Introduction Measuring intra-industry trade Dixit-Stiglitz demand Demand effects; income, price elasticity, and price index Increasing returns to scale Optimal pricing and zero profits Explaining intra-industry trade An alternative interpretation: intermediate goods Conclusions CHAPTER 10; INTRA - INDUSTRY TRADE International Trade & the World Economy; Charles van Marrewijk
Introduction International Trade & the World Economy; Charles van Marrewijk Avinash Dixit ( )
Introduction Measuring intra-industry trade Dixit-Stiglitz demand Demand effects; income, price elasticity, and price index Increasing returns to scale Optimal pricing and zero profits Explaining intra-industry trade An alternative interpretation: intermediate goods Conclusions CHAPTER 10; INTRA - INDUSTRY TRADE International Trade & the World Economy; Charles van Marrewijk
Measuring intra-industry trade (= two-way trade in similar goods) International Trade & the World Economy; Charles van Marrewijk Use the Grubel-Lloyd (GL) index to measure intra-industry trade:
Measuring intra-industry trade International Trade & the World Economy; Charles van Marrewijk Variations in extent of intra-industry trade
Measuring intra-industry trade International Trade & the World Economy; Charles van Marrewijk Increasing importance of intra-industry trade
Introduction Measuring intra-industry trade Dixit-Stiglitz demand Demand effects; income, price elasticity, and price index Increasing returns to scale Optimal pricing and zero profits Explaining intra-industry trade An alternative interpretation: intermediate goods Conclusions CHAPTER 10; INTRA - INDUSTRY TRADE International Trade & the World Economy; Charles van Marrewijk
Dixit-Stiglitz demand International Trade & the World Economy; Charles van Marrewijk If there are N (= ‘large’) different varieties of manufactures And the utility function is: Then, subject to the budget constraint; the demand for a variety, say j, is: (discussed below) Characteristic is the love-of-variety effect, e.g. if c i = c for all i:
Introduction Measuring intra-industry trade Dixit-Stiglitz demand Demand effects; income, price elasticity, and price index Increasing returns to scale Optimal pricing and zero profits Explaining intra-industry trade An alternative interpretation: intermediate goods Conclusions CHAPTER 10; INTRA - INDUSTRY TRADE International Trade & the World Economy; Charles van Marrewijk
Demand effects; income, price elasticity, and price index International Trade & the World Economy; Charles van Marrewijk Dixit-Stiglitz demand depends on: The income level Iequiproportionally The price charged by the producernegatively A parameter > 1= price elasticity of demand The price index Ppositively Demand for a variety rises if the general price level P increases; Each producer ignores his own impact on this price level, which is reasonable if N is ‘large’ but not if N is ‘small’ (see next slide)
Demand effects; income, price elasticity, and price index International Trade & the World Economy; Charles van Marrewijk
Introduction Measuring intra-industry trade Dixit-Stiglitz demand Demand effects; income, price elasticity, and price index Increasing returns to scale Optimal pricing and zero profits Explaining intra-industry trade An alternative interpretation: intermediate goods Conclusions CHAPTER 10; INTRA - INDUSTRY TRADE International Trade & the World Economy; Charles van Marrewijk
Increasing returns to scale (IRS) International Trade & the World Economy; Charles van Marrewijk If the production function requires a fixed labor cost f before production starts at variable labor cost m there are IRS:
Introduction Measuring intra-industry trade Dixit-Stiglitz demand Demand effects; income, price elasticity, and price index Increasing returns to scale Optimal pricing and zero profits Explaining intra-industry trade An alternative interpretation: intermediate goods Conclusions CHAPTER 10; INTRA - INDUSTRY TRADE International Trade & the World Economy; Charles van Marrewijk
Optimal pricing and zero profits International Trade & the World Economy; Charles van Marrewijk As a result of IRS each variety is produced by single producer. This producer has market power and charges a monopolistically competitive price (determines the optimal price by MR = MC, taking the prices charged by the other firms [the price index P] as given). Because the price elasticity of demand is constant (equal to the parameter ) the mark-up over marginal costs charged by the producer is also constant. Firms will enter the market (producing new varieties) if profits are positive; they will exit if profits are negative. The number of varieties N produced is therefore determined by the zero-profit condition. In the Dixit-Stiglitz model the number of varieties N produced is proportional to the size of the economy as measured by the labor force
Introduction Measuring intra-industry trade Dixit-Stiglitz demand Demand effects; income, price elasticity, and price index Increasing returns to scale Optimal pricing and zero profits Explaining intra-industry trade An alternative interpretation: intermediate goods Conclusions CHAPTER 10; INTRA - INDUSTRY TRADE International Trade & the World Economy; Charles van Marrewijk
Explaining intra-industry trade
Introduction Measuring intra-industry trade Dixit-Stiglitz demand Demand effects; income, price elasticity, and price index Increasing returns to scale Optimal pricing and zero profits Explaining intra-industry trade An alternative interpretation: intermediate goods Conclusions CHAPTER 10; INTRA - INDUSTRY TRADE International Trade & the World Economy; Charles van Marrewijk
An alternative interpretation: intermediate goods; Krugman International Trade & the World Economy; Charles van Marrewijk
An alternative interpretation: intermediate goods; Ethier International Trade & the World Economy; Charles van Marrewijk
Introduction Measuring intra-industry trade Dixit-Stiglitz demand Demand effects; income, price elasticity, and price index Increasing returns to scale Optimal pricing and zero profits Explaining intra-industry trade An alternative interpretation: intermediate goods Conclusions CHAPTER 10; INTRA - INDUSTRY TRADE International Trade & the World Economy; Charles van Marrewijk
Conclusions International Trade & the World Economy; Charles van Marrewijk Empirically observed prevalence of intra-industry trade (two-way trade in similar products) puzzled theorists. Intra-industry trade is measured using the Grubel-Lloyd index. Krugman uses Dixit-Stiglitz variety approach with monopolistic competition and IRS to explain intra-industry trade. Trade extends the market and raises welfare through an increases of the number of varieties available (love-of-variety). Alternative interpretation (Ethier) explains intra-industry trade through exchange of intermediate goods; increased specialization leads to positive production externalities.