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Welfare Effects of Trade Liberalization with Intra-industry Reallocations: The Importance of Preferences and Market Failures

  • Allan Sørensen

    ()

    (School of Economics and Management, Aarhus University, Denmark)

This paper shows that the novel gains from trade liberalization driven by intra-industry reallocations (Melitz (2003)) are not robust to changes in the preference structure. In the Melitz (2003) setting the unambigousness of the welfare effect depends crucially on the assumption of traditional CES pref- erences, which ensures equivalence of the market equilibrium and the social planner solution. For other preferences this equivalence is broken and trade liberalization may reduce welfare by magnifying market failures. An exact condition for trade liberalization to reduce overall welfare is derived under the assumptions of generalized CES preferences and a specific distribution (Pareto) of firm heterogeneity.

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Paper provided by School of Economics and Management, University of Aarhus in its series Economics Working Papers with number 2010-02.

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Length: 24
Date of creation: 14 Jan 2010
Date of revision:
Handle: RePEc:aah:aarhec:2010-02
Contact details of provider: Web page: http://www.econ.au.dk/afn/

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  1. 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.
  2. Jonathan Eaton & Samuel Kortum, 2004. "An Anatomy of International Trade: Evidence from French Firms," 2004 Meeting Papers 802, Society for Economic Dynamics.
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  4. David Weinstein & Christian Broda, 2004. "Globalization and the Gains from Variety," 2004 Meeting Papers 530, Society for Economic Dynamics.
  5. Demidova, Svetlana & Rodríguez-Clare, Andrés, 2009. "Trade policy under firm-level heterogeneity in a small economy," Journal of International Economics, Elsevier, vol. 78(1), pages 100-112, June.
  6. Olivier Blanchard & Francesco Giavazzi, 2001. "Macroeconomic Effects of Regulation and Deregulation in Goods and Labor Markets," NBER Working Papers 8120, National Bureau of Economic Research, Inc.
  7. Hartmut Egger & Udo Kreickemeier, 2009. "Firm Heterogeneity And The Labor Market Effects Of Trade Liberalization," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 50(1), pages 187-216, 02.
  8. Felbermayr, Gabriel & Prat, Julien, 2007. "Product Market Regulation, Firm Selection and Unemployment," IZA Discussion Papers 2754, Institute for the Study of Labor (IZA).
  9. Felbermayr, Gabriel & Prat, Julien & Schmerer, Hans-Jörg, 2011. "Globalization and labor market outcomes: Wage bargaining, search frictions, and firm heterogeneity," Journal of Economic Theory, Elsevier, vol. 146(1), pages 39-73, January.
  10. Marc J. Melitz, 2003. "The Impact of Trade on Intra-Industry Reallocations and Aggregate Industry Productivity," Econometrica, Econometric Society, vol. 71(6), pages 1695-1725, November.
  11. 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.
  12. Catia Montagna, 1998. "Efficiency Gaps, Love of Variety and International Trade," Dundee Discussion Papers in Economics 090, Economic Studies, University of Dundee.
  13. Richard E. Baldwin & Rikard Forslid, 2010. "Trade Liberalization with Heterogeneous Firms," Review of Development Economics, Wiley Blackwell, vol. 14(2), pages 161-176, 05.
  14. Ethier, Wilfred J, 1982. "National and International Returns to Scale in the Modern Theory of International Trade," American Economic Review, American Economic Association, vol. 72(3), pages 389-405, June.
  15. Christian Broda & David W. Weinstein, 2004. "Variety Growth and World Welfare," American Economic Review, American Economic Association, vol. 94(2), pages 139-144, May.
  16. Blanchard, Olivier Jean & Kiyotaki, Nobuhiro, 1987. "Monopolistic Competition and the Effects of Aggregate Demand," American Economic Review, American Economic Association, vol. 77(4), pages 647-66, September.
  17. Benassy, Jean-Pascal, 1996. "Taste for variety and optimum production patterns in monopolistic competition," Economics Letters, Elsevier, vol. 52(1), pages 41-47, July.
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