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Skill Premium and Trade Puzzles: a Solution Linking Production and Preferences

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  • Justin Caron
  • Thibault Fally
  • James R. Markusen

Abstract

International trade theory is a general-equilibrium discipline, yet most of the standard portfolio of research focuses on the production side of general equilibrium. In addition, we do not have a good understanding of the relationship between characteristics of goods in production and characteristics of preferences. This paper conducts an empirical investigation into the relationship between a good's factor intensity in production and its income elasticity of demand in consumption. In particular, we find a strong and significant positive relationship between skilled-labor intensity in production and income elasticity of demand for several types of preferences, with and without accounting for trade costs and differences in prices. Counter-factual simulations yield a number of results. We can explain about half of “missing trade”, and show an important role for per-capita income in understanding trade/GDP ratios, the choice of trading partners, and the composition of trade. Furthermore, an equal rise in productivity in all sectors in all countries leads to a rising skill premium in all countries, with particularly large increases in developing countries.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 18131.

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Date of creation: Jun 2012
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Handle: RePEc:nbr:nberwo:18131

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  1. Hunter, Linda, 1991. "The contribution of nonhomothetic preferences to trade," Journal of International Economics, Elsevier, vol. 30(3-4), pages 345-358, May.
  2. Fally, Thibault & Paillacar, Rodrigo & Terra, Cristina, 2010. "Economic geography and wages in Brazil: Evidence from micro-data," Journal of Development Economics, Elsevier, vol. 91(1), pages 155-168, January.
  3. Markusen, James R., 2013. "Putting per-capita income back into trade theory," Journal of International Economics, Elsevier, vol. 90(2), pages 255-265.
  4. Kiminori Matsuyama, 2000. "A Ricardian Model with a Continuum of Goods under Nonhomothetic Preferences: Demand Complementarities, Income Distribution, and North-South Trade," Journal of Political Economy, University of Chicago Press, vol. 108(6), pages 1093-1120, December.
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  7. Cragg, Michael Ian & Epelbaum, Mario, 1996. "Why has wage dispersion grown in Mexico? Is it the incidence of reforms or the growing demand for skills?," Journal of Development Economics, Elsevier, vol. 51(1), pages 99-116, October.
  8. Inmaculada Martínez-Zarzoso & Sebastian Vollmer, 2010. "Bilateral trade flows and income-distribution similarity," Working Papers 10-06, Asociación Española de Economía y Finanzas Internacionales.
  9. Orazio Attanasio & Pinelopi Goldberg & Nina Pavcnik, 2003. "Trade Reforms and Wage Inequiality in Colombia," NBER Working Papers 9830, National Bureau of Economic Research, Inc.
  10. Trefler, Daniel, 1995. "The Case of the Missing Trade and Other Mysteries," American Economic Review, American Economic Association, vol. 85(5), pages 1029-46, December.
  11. Hanoch, Giora, 1975. "Production and Demand Models with Direct or Indirect Implicit Additivity," Econometrica, Econometric Society, vol. 43(3), pages 395-419, May.
  12. Robert C. Feenstra & Gordon H. Hanson, 1999. "The Impact Of Outsourcing And High-Technology Capital On Wages: Estimates For The United States, 1979-1990," The Quarterly Journal of Economics, MIT Press, vol. 114(3), pages 907-940, August.
  13. James Cassing & Shuichiro Nishioka, 2009. "Nonhomothetic Tastes and Missing Trade of Factor Services," Working Papers 09-03, Department of Economics, West Virginia University.
  14. Markusen, James R, 1986. "Explaining the Volume of Trade: An Eclectic Approach," American Economic Review, American Economic Association, vol. 76(5), pages 1002-11, December.
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Cited by:
  1. Claudia Bernasconi, 2013. "Similarity of income distributions and the extensive and intensive margin of bilateral trade flows," ECON - Working Papers 115, Department of Economics - University of Zurich.
  2. James R. Markusen, 2013. "Per-capita Income as a Determinant of International Trade and Environmental Policies," NBER Working Papers 19754, National Bureau of Economic Research, Inc.
  3. James R. Markusen, 2014. "Per-Capital Income as a Determinant of International Trade and Environment Policies," CESifo Working Paper Series 4618, CESifo Group Munich.

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