Putting Per-Capita Income Back into Trade Theory

28 Pages Posted: 19 Apr 2010 Last revised: 9 May 2010

See all articles by James R. Markusen

James R. Markusen

University of Colorado at Boulder - Department of Economics; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

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Date Written: April 2010

Abstract

A major role for per-capita income in international trade, as opposed to simply country size, was persuasively advanced by Linder (1961). Yet this crucial element of Linder's story was abandon by most later trade economists in favor of the analytically-tractable but counter-empirical assumption that all countries share identical and homothetic preferences. This paper collects and unifies a number of disjoint points in the existing literature and builds further on them using simple and tractable alternative preferences. Adding non-homothetic preferences to a traditional models helps explain such diverse phenomenon as growing wage gaps, the mystery of the missing trade, home bias in consumption, and the role of intra-country income distribution, solely from the demand side of general equilibrium. With imperfect competition, we can explain higher markups and higher price levels in higher per-capita income countries, and the puzzle that gravity equations show a positive dependence of trade on per-capita incomes, aggregate income held constant. In all cases, the effects of growth are quite different depending on whether it is growth in productivity or through factor accumulation. The paper concludes with some suggestions for calibration, estimation, and gravity equations.

Suggested Citation

Markusen, James R., Putting Per-Capita Income Back into Trade Theory (April 2010). NBER Working Paper No. w15903. Available at SSRN: https://ssrn.com/abstract=1590713

James R. Markusen (Contact Author)

University of Colorado at Boulder - Department of Economics ( email )

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Boulder, CO 80309
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Centre for Economic Policy Research (CEPR)

London
United Kingdom

National Bureau of Economic Research (NBER) ( email )

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Cambridge, MA 02138
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