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Inequality, Nonhomothetic Preferences, And Trade: A Gravity Approach

We construct the first direct classification of goods as luxuries or necessities that is compatible with international trade data. We then use it to test an idea that has not been tested directly in the literature: countries income distributions are important determinants of their import demand, and in particular of the difference in their import demands of luxuries versus necessities. We interpret this result with the aid of a model in which preferences are nonhomothetic, thus relaxing a long-held and standard  but empirically dubious  assumption in the theory of international trade. Our model is strongly borne out by the results: imports of luxuries increase with importing countrys inequality, and imports of necessities decrease with it. Our calculations imply that if income distribution in the United States became as equal as in Canada, the US would import about 9  13% less in luxury goods and 13  19% more in necessity goods.

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File URL: http://economics.missouri.edu/working-papers/2006/wp0606_trindade.pdf
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Paper provided by Department of Economics, University of Missouri in its series Working Papers with number 0606.

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Length: 35 pgs.
Date of creation: 26 Apr 2006
Date of revision: 08 May 2006
Handle: RePEc:umc:wpaper:0606
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  1. Devashish Mitra & Vitor Trindade, 2005. "Inequality and trade," Canadian Journal of Economics, Canadian Economics Association, vol. 38(4), pages 1253-1271, November.
  2. Simon J. Evenett & Wolfgang Keller, 1996. "On Theories Explaining the Success of the Gravity Equation," International Trade 9608001, EconWPA, revised 13 Jun 1997.
  3. Dollar, David & Kraay, Aart, 2001. "Growth is good for the poor," Policy Research Working Paper Series 2587, The World Bank.
  4. Stephen Redding & Anthony J. Venables, 2001. "Economic geography and international inequality," LSE Research Online Documents on Economics 3714, London School of Economics and Political Science, LSE Library.
  5. James E. Anderson & Eric van Wincoop, 2001. "Gravity with Gravitas: A Solution to the Border Puzzle," NBER Working Papers 8079, National Bureau of Economic Research, Inc.
  6. Francois, Joseph F & Kaplan, Seth, 1996. "Aggregate Demand Shifts, Income Distribution, and the Linder Hypothesis," The Review of Economics and Statistics, MIT Press, vol. 78(2), pages 244-50, May.
  7. Harrigan, James, 1996. "Openness to trade in manufactures in the OECD," Journal of International Economics, Elsevier, vol. 40(1-2), pages 23-39, February.
  8. Robert C. Feenstra & James R. Markusen & Andrew K. Rose, 2001. "Using the gravity equation to differentiate among alternative theories of trade," Canadian Journal of Economics, Canadian Economics Association, vol. 34(2), pages 430-447, May.
  9. 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.
  10. Andrew K. Rose, 2004. "Do We Really Know That the WTO Increases Trade?," American Economic Review, American Economic Association, vol. 94(1), pages 98-114, March.
  11. Feenstra, Robert C, 2002. "Border Effects and the Gravity Equation: Consistent Methods for Estimation," Scottish Journal of Political Economy, Scottish Economic Society, vol. 49(5), pages 491-506, December.
  12. Andrew K. Rose & Eric van Wincoop, 2001. "National Money as a Barrier to International Trade: The Real Case for Currency Union," American Economic Review, American Economic Association, vol. 91(2), pages 386-390, May.
  13. Rauch, James E., 1999. "Networks versus markets in international trade," Journal of International Economics, Elsevier, vol. 48(1), pages 7-35, June.
  14. James A. Dunlevy, 2006. "The Influence of Corruption and Language on the Protrade Effect of Immigrants: Evidence from the American States," The Review of Economics and Statistics, MIT Press, vol. 88(1), pages 182-186, February.
  15. Deininger, Klaus & Squire, Lyn, 1996. "A New Data Set Measuring Income Inequality," World Bank Economic Review, World Bank Group, vol. 10(3), pages 565-91, September.
  16. Dow, James & da Costa Werlang, Sergio Ribeiro, 1992. "Homothetic preferences," Journal of Mathematical Economics, Elsevier, vol. 21(4), pages 389-394.
  17. Hunter, Linda, 1991. "The contribution of nonhomothetic preferences to trade," Journal of International Economics, Elsevier, vol. 30(3-4), pages 345-358, May.
  18. Freund, Caroline L. & Weinhold, Diana, 2004. "The effect of the Internet on international trade," Journal of International Economics, Elsevier, vol. 62(1), pages 171-189, January.
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