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Monopolistic Competition: CES Redux?

  • Paolo Bertoletti


    (Department of Economics and Management, University of Pavia)

  • Paolo Epifani


    (Department of Economics, IGIER and Baffi Centre, Università Bocconi)

We investigate competitive, selection and reallocation effects in monopolistic competition trade models. We argue that departing from CES preferences in an otherwise standard Dixit-Stiglitz setup with additive preferences seems to involve implausible assumptions about consumer behavior and inconsistent competitive effects. In the presence of trade costs, selection effects à la Melitz (2003) are instead generally robust to the assumptions about preferences. However, they are unambiguously associated to aggregate productivity gains only when preferences are CES. We also study competitive effects in alternative monopolistic competition settings featuring non-additive preferences, strategic interaction and consumers’ preference for an ideal variety. We find that none of the these setups delivers a compelling pro-competitive mechanism. Overall, our results suggest that in monopolistic competition, consistent with CES preferences, larger markets select more aggressively on productivity rather than forcing firms to move down their average cost curves.

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Paper provided by University of Pavia, Department of Economics and Management in its series DEM Working Papers Series with number 004.

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Length: 38 pages
Date of creation: Oct 2012
Date of revision:
Handle: RePEc:pav:demwpp:demwp0004
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  1. Costas Arkolakis & Arnaud Costinot & Andres Rodriguez-Clare, 2012. "New Trade Models, Same Old Gains?," American Economic Review, American Economic Association, vol. 102(1), pages 94-130, February.
  2. Pettengill, John S, 1979. "Monopolistic Competition and Optimum Product Diversity: Comment," American Economic Review, American Economic Association, vol. 69(5), pages 957-60, December.
  3. David L. Hummels & Volodymyr Lugovskyy, 2008. "International pricing in a generalized model of ideal variety," Proceedings, Board of Governors of the Federal Reserve System (U.S.).
  4. Peter Neary & Monika Mrazova, 2011. "Selection Effects with Heterogeneous Firms," Economics Series Working Papers 588, University of Oxford, Department of Economics.
  5. Marc J. Melitz & Gianmarco I.P. Ottaviano, 2005. "Market Size, Trade, and Productivity," NBER Working Papers 11393, National Bureau of Economic Research, Inc.
  6. J. Peter Neary, 2003. "Presidential Address: Globalization and Market Structure," Journal of the European Economic Association, MIT Press, vol. 1(2-3), pages 245-271, 04/05.
  7. Melitz, Marc J, 2002. "The Impact of Trade on Intra-Industry Reallocations and Aggregate Industry Productivity," CEPR Discussion Papers 3381, C.E.P.R. Discussion Papers.
  8. ZHELOBODKO, Evgeny & KOKOVIN, Sergey & Parenti, Mathieu & THISSE, Jacques-François, . "Monopolistic competition beyond the constant elasticity of substitution," CORE Discussion Papers RP 2488, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
  9. J. Peter Neary, 2002. "Globalisation and market structure," Working Papers 200220, School of Economics, University College Dublin.
  10. Melitz, Marc J. & Trefler, Daniel, 2012. "Gains from Trade When Firms Matter," Scholarly Articles 10914282, Harvard University Department of Economics.
  11. J. Peter Neary, 2009. "Putting the "New" into New Trade Theory: Paul Krugman's Nobel Memorial Prize in Economics," Scandinavian Journal of Economics, Wiley Blackwell, vol. 111(2), pages 217-250, 06.
  12. Bertoletti, Paolo, 2006. "Logarithmic quasi-homothetic preferences," Economics Letters, Elsevier, vol. 90(3), pages 433-439, March.
  13. Dixit, Avinash K & Stiglitz, Joseph E, 1975. "Monopolistic Competition and Optimum Product Diversity," The Warwick Economics Research Paper Series (TWERPS) 64, University of Warwick, Department of Economics.
  14. Feenstra, Robert C., 2003. "A homothetic utility function for monopolistic competition models, without constant price elasticity," Economics Letters, Elsevier, vol. 78(1), pages 79-86, January.
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  16. Dixit, Avinash K & Stiglitz, Joseph E, 1979. "Monopolistic Competition and Optimum Product Diversity: Reply," American Economic Review, American Economic Association, vol. 69(5), pages 961-63, December.
  17. Krugman, Paul R., 1979. "Increasing returns, monopolistic competition, and international trade," Journal of International Economics, Elsevier, vol. 9(4), pages 469-479, November.
  18. 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.
  19. Blackorby, Charles & Russell, R Robert, 1989. "Will the Real Elasticity of Substitution Please Stand Up? (A Comparison of the Allen/Uzawa and Morishima Elasticities)," American Economic Review, American Economic Association, vol. 79(4), pages 882-88, September.
  20. Helpman, Elhanan, 1981. "International trade in the presence of product differentiation, economies of scale and monopolistic competition : A Chamberlin-Heckscher-Ohlin approach," Journal of International Economics, Elsevier, vol. 11(3), pages 305-340, August.
  21. Lancaster, Kelvin, 1975. "Socially Optimal Product Differentiation," American Economic Review, American Economic Association, vol. 65(4), pages 567-85, September.
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