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Long-run supply effects and the elasticities approach to trade

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  • Joseph E. Gagnon

Abstract

Krugman (1989) argued that differences across countries in estimated income elasticities of import demand are due to omission of an exporter supply effect. He showed that such an effect can be derived in a theoretical model with economies of scale in production and a taste for variety in consumption. In his model, countries grow by producing new varieties of goods, and they are able to export these goods without suffering any deterioration in their terms of trade. This paper analyzes U.S. import demand from different source countries and finds strong evidence of a supply effect of roughly half the magnitude (0.75) of the income elasticity (1.5). Price elasticities for the most part are estimated close to -1, which is typical for the literature. Exclusion of the supply effect leads to overestimation of the income elasticity. Results based on U.S. exports to different destinations are less robust, but largely corroborate these findings.

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Bibliographic Info

Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series International Finance Discussion Papers with number 754.

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Date of creation: 2003
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Handle: RePEc:fip:fedgif:754

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Keywords: Imports ; International trade;

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References

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  1. Cheung, Yin-Wong & Chinn, Menzie & Garcia Pascual, Antonio, 2003. "Empirical Exchange Rate Models of the Nineties: Are Any Fit to Survive?," Santa Cruz Department of Economics, Working Paper Series qt5fc508pt, Department of Economics, UC Santa Cruz.
  2. Knetter, Michael M, 1989. "Price Discrimination by U.S. and German Exporters," American Economic Review, American Economic Association, vol. 79(1), pages 198-210, March.
  3. Paul Krugman, 1989. "Differences In Income Elasticities and Trends in Real Exchange Rates," NBER Working Papers 2761, National Bureau of Economic Research, Inc.
  4. Tamim Bayoumi, 1999. "Estimating Trade Equations from Aggregate Bilateral Data," IMF Working Papers 99/74, International Monetary Fund.
  5. Bergstrand, Jeffrey H, 1989. "The Generalized Gravity Equation, Monopolistic Competition, and the Factor-Proportions Theory in International Trade," The Review of Economics and Statistics, MIT Press, vol. 71(1), pages 143-53, February.
  6. Joseph E. Gagnon, 1996. "Net foreign assets and equilibrium exchange rates: panel evidence," International Finance Discussion Papers 574, Board of Governors of the Federal Reserve System (U.S.).
  7. Feenstra, Robert C, 1994. "New Product Varieties and the Measurement of International Prices," American Economic Review, American Economic Association, vol. 84(1), pages 157-77, March.
  8. Prema-chandra Athukorala & J. Reidel, 1993. "Export Growth and Terms of Trade: The Case of the Curious Elasticities," Working Papers 1993.22, School of Economics, La Trobe University.
  9. Houthakker, Hendrik S & Magee, Stephen P, 1969. "Income and Price Elasticities in World Trade," The Review of Economics and Statistics, MIT Press, vol. 51(2), pages 111-25, May.
  10. Pinelopi Koujianou Goldberg & Michael M. Knetter, 1997. "Goods Prices and Exchange Rates: What Have We Learned?," Journal of Economic Literature, American Economic Association, vol. 35(3), pages 1243-1272, September.
  11. Baier, Scott L. & Bergstrand, Jeffrey H., 2001. "The growth of world trade: tariffs, transport costs, and income similarity," Journal of International Economics, Elsevier, vol. 53(1), pages 1-27, February.
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Citations

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Cited by:
  1. Catherine L. Mann & Katharina Plück, 2005. "The US Trade Deficit: A Disaggregated Perspective," Working Paper Series WP05-11, Peterson Institute for International Economics.
  2. Kang, Kichun, 2009. "The export price index with the effect of variety and an empirical analysis," Economic Modelling, Elsevier, vol. 26(2), pages 385-391, March.
  3. Willem Thorbecke, 2011. "The Effect of Exchange Rate Changes on Trade in East Asia," Macroeconomics Working Papers 23274, East Asian Bureau of Economic Research.
  4. Baybars Karacaovali, 2011. "Productivity Matters For Trade Policy: Theory And Evidence," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 52(1), pages 33-62, 02.
  5. Abdelaziz Rouabah, 2005. "Les déterminants du solde de la balance des transactions courantes au Luxembourg," BCL working papers 13, Central Bank of Luxembourg.
  6. Barry Bosworth, 2008. "Trading with Asia’s Giants," Working Papers id:1615, eSocialSciences.
  7. Joseph E. Gagnon, 2003. "Productive capacity, product varieties, and the elasticities approach to the trade balance," International Finance Discussion Papers 781, Board of Governors of the Federal Reserve System (U.S.).
  8. Desirée Van Welsum, 2004. "In Search of ‘Offshoring’: Evidence from U.S. Imports of Services," Birkbeck Working Papers in Economics and Finance 0402, Birkbeck, Department of Economics, Mathematics & Statistics.
  9. Levent Celik & Bilgehan Karabay & John McLaren, 2011. "Trade Policy Making in a Model of Legislative Bargaining," NBER Working Papers 17262, National Bureau of Economic Research, Inc.
  10. Bernardina Algieri, 2011. "Modelling export equations using an unobserved component model: the case of the Euro Area and its competitors," Empirical Economics, Springer, vol. 41(3), pages 593-637, December.
  11. Levent Celik & Bilgehan Karabay & John McLaren, 2012. "When is it Optimal to Delegate: The Theory of Fast-track Authority," NBER Working Papers 17810, National Bureau of Economic Research, Inc.
  12. Corsetti, Giancarlo & Martin, Philippe & Pesenti, Paolo, 2007. "Productivity, terms of trade and the `home market effect'," Journal of International Economics, Elsevier, vol. 73(1), pages 99-127, September.
  13. Demmou, Lilas, 2012. "How product innovation in the North may immiserize the South," Journal of Development Economics, Elsevier, vol. 97(2), pages 293-304.
  14. Carl Bonham & Byron Gangnes & Ari Van Assche, 2004. "Fragmentation and East Asia’s Information Technology Trade," Working Papers 200409, University of Hawaii at Manoa, Department of Economics.

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