Why are goods and services more expensive in rich countries? demand complementarities and cross-country price differences
AbstractEmpirical studies show that tradable consumption goods are more expensive in rich countries. This paper proposes a simple yet novel explanation for this apparent failure of the law of one price: Consumers’ utility from tradable goods depends on their consumption of complementary goods and services. Monopolistically competitive firms charge higher prices in countries with more complementary goods and services because consumer demand is less elastic there. The paper embeds this explanation within a static Krugman (1980)-style model of international trade featuring differentiated tradable goods. Extended versions of the model can also account for the high prices of nontradable services in rich countries. The paper provides direct evidence in support of this new explanation. Using free-alongside-ship prices of U.S. and Chinese exports, I demonstrate that prices of specific subsets of tradable goods are higher in countries with high consumption of relevant complementary goods, conditional on per capita income and other country-level determinants of consumer goods prices.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by Federal Reserve Bank of Dallas in its series Globalization and Monetary Policy Institute Working Paper with number 156.
Date of creation: 2013
Date of revision:
Other versions of this item:
- Murphy, Daniel, 2013. "Why are Goods and Services more Expensive in Rich Countries? Demand Complementarities and Cross-Country Price Differences," Working Papers 636, Research Seminar in International Economics, University of Michigan.
- E22 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Capital; Investment; Capacity
- E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
- F12 - International Economics - - Trade - - - Models of Trade with Imperfect Competition and Scale Economies; Fragmentation
- F14 - International Economics - - Trade - - - Empirical Studies of Trade
- L11 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Production, Pricing, and Market Structure; Size Distribution of Firms
- O16 - Economic Development, Technological Change, and Growth - - Economic Development - - - Financial Markets; Saving and Capital Investment; Corporate Finance and Governance
This paper has been announced in the following NEP Reports:
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Charles Engel, 1995.
"Accounting for U.S. Real Exchange Rate Changes,"
NBER Working Papers
5394, National Bureau of Economic Research, Inc.
- Engel, C., 1996. "Accounting for U.S. Real Exchange Rate Changes," Discussion Papers in Economics at the University of Washington 96-02, Department of Economics at the University of Washington.
- Engel, C., 1996. "Accounting for U.S. Real Exchange Rate Changes," Working Papers 96-02, University of Washington, Department of Economics.
- Costas Arkolakis, 2008.
"Market Penetration Costs and the New Consumers Margin in International Trade,"
NBER Working Papers
14214, National Bureau of Economic Research, Inc.
- Costas Arkolakis, 2010. "Market Penetration Costs and the New Consumers Margin in International Trade," Journal of Political Economy, University of Chicago Press, vol. 118(6), pages 1151 - 1199.
- Barro, R.J., 1989.
"Economic Growth In A Cross Section Of Countries,"
RCER Working Papers
201, University of Rochester - Center for Economic Research (RCER).
- James R. Markusen, 2010.
"Putting Per-Capita Income Back into Trade Theory,"
NBER Working Papers
15903, National Bureau of Economic Research, Inc.
- Berthold Herrendorf & Ákos Valentinyi, 2012. "Which Sectors Make Poor Countries So Unproductive?," Journal of the European Economic Association, European Economic Association, vol. 10(2), pages 323-341, 04.
- Pablo Fajgelbaum & Gene M. Grossman & Elhanan Helpman, 2011.
"Income Distribution, Product Quality, and International Trade,"
Journal of Political Economy,
University of Chicago Press, vol. 119(4), pages 721 - 765.
- Pablo D. Fajgelbaum & Gene M. Grossman & Elhanan Helpman, 2009. "Income Distribution, Product Quality, and International Trade," NBER Working Papers 15329, National Bureau of Economic Research, Inc.
- Fajgelbaum, Pablo & Grossman, Gene M. & Helpman, Elhanan, 2011. "Income distribution, product quality, and international trade," Policy Research Working Paper Series 5843, The World Bank.
- Krugman, Paul, 1980. "Scale Economies, Product Differentiation, and the Pattern of Trade," American Economic Review, American Economic Association, vol. 70(5), pages 950-59, December.
- Pablo D. Fajgelbaum, 2011. "Income Distribution, Product Quality and International Trade," 2011 Meeting Papers 415, Society for Economic Dynamics.
- Francois Gourio & Leena Rudanko, 2011.
NBER Working Papers
17191, National Bureau of Economic Research, Inc.
- George Alessandria & Joseph P. Kaboski, 2011.
"Pricing-to-Market and the Failure of Absolute PPP,"
American Economic Journal: Macroeconomics,
American Economic Association, vol. 3(1), pages 91-127, January.
- Kalina Manova & Zhiwei Zhang, 2012. "Export Prices Across Firms and Destinations," The Quarterly Journal of Economics, Oxford University Press, vol. 127(1), pages 379-436.
- Ina Simonovska, 2010.
"Income differences and prices of tradables,"
Globalization and Monetary Policy Institute Working Paper
55, Federal Reserve Bank of Dallas.
- Hallak, Juan Carlos, 2006. "Product quality and the direction of trade," Journal of International Economics, Elsevier, vol. 68(1), pages 238-265, January.
- Emi Nakamura & Dawit Zerom, 2009.
"Accounting for Incomplete Pass-Through,"
NBER Working Papers
15255, National Bureau of Economic Research, Inc.
- Chang-Tai Hsieh & Peter J. Klenow, 2003.
"Relative prices and relative prosperity,"
Federal Reserve Bank of San Francisco, issue Nov.
- Bela Balassa, 1964. "The Purchasing-Power Parity Doctrine: A Reappraisal," Journal of Political Economy, University of Chicago Press, vol. 72, pages 584.
- Hunter, Linda, 1991. "The contribution of nonhomothetic preferences to trade," Journal of International Economics, Elsevier, vol. 30(3-4), pages 345-358, May.
- Kelvin J. Lancaster, 1966. "A New Approach to Consumer Theory," Journal of Political Economy, University of Chicago Press, vol. 74, pages 132.
- Ana Cecília Fieler, 2011. "Nonhomotheticity and Bilateral Trade: Evidence and a Quantitative Explanation," Econometrica, Econometric Society, vol. 79(4), pages 1069-1101, 07.
- Emi Nakamura & Dawit Zerom, 2010. "Accounting for Incomplete Pass-Through," Review of Economic Studies, Oxford University Press, vol. 77(3), pages 1192-1230.
- David L. Hummels & Volodymyr Lugovskyy, 2008.
"International pricing in a generalized model of ideal variety,"
Board of Governors of the Federal Reserve System (U.S.).
- David Hummels & Volodymyr Lugovskyy, 2009. "International Pricing in a Generalized Model of Ideal Variety," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 41(s1), pages 3-33, 02.
- Gita Gopinath & Pierre-Olivier Gourinchas & Chang-Tai Hsieh & Nicholas Li, 2011. "International Prices, Costs, and Markup Differences," American Economic Review, American Economic Association, vol. 101(6), pages 2450-86, October.
Blog mentionsAs found by EconAcademics.org, the blog aggregator for Economics research:
- Why is living in poor countries so cheap?
by Economic Logician in Economic Logic on 2013-06-19 15:14:00
- Murphy, Daniel P., 2013. "A shopkeeper economy," Globalization and Monetary Policy Institute Working Paper 158, Federal Reserve Bank of Dallas.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Delia Rodriguez).
If references are entirely missing, you can add them using this form.