The home market effect (HME) is a distinguishing feature of the “new” theory of international trade, but it is uncertain whether this effect survives if one moves beyond the simplifying setup with only two countries. We present a three -country version of the seminal model by Krugman (1980) and analyse under which circumstances the HME is present once third country effects are taken into account. We show that an exogenous increase in the home country’s expenditure level on the modern good will unambiguously lead to an overproportional output reaction. If production in the foreign world shifts from a more remote to a better accessible economy, industry location in the home country is negatively affected. Thus, if the expenditure increase is small relative to the foreign expenditure shifting, an under-proportion al output reaction in the home country can result. In a more extreme case the industry share of the home country can even decrease. This phenomenon is labelled the “home market shadow”.
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Paper provided by Institute for the Study of Labor (IZA) in its series IZA Discussion Papers with number
1462.
Find related papers by JEL classification: F12 - International Economics - - Trade - - - Models of Trade with Imperfect Competition and Scale Economies F14 - International Economics - - Trade - - - Country and Industry Studies of Trade R12 - Urban, Rural, and Regional Economics - - General Regional Economics - - - Size and Spatial Distributions of Regional Economic Activity; Interregional Trade (economic geography)
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Head, Keith & Mayer, Thierry & Ries, John, 2002.
"On the Pervasiveness of Home Market Effects,"
Economica,
London School of Economics and Political Science, vol. 69(275), pages 371-90, August.
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Other versions:
Baldwin, Richard E. & Venables, Anthony J., 1995.
"Regional economic integration,"
Handbook of International Economics,
in: G. M. Grossman & K. Rogoff (ed.), Handbook of International Economics, edition 1, volume 3, chapter 31, pages 1597-1644
Elsevier.
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