External Economies and International Trade Redux

Gene M. Grossman and Esteban Rossi-Hansberg

The Quarterly Journal of Economics, 2010, vol. 125, issue 2, 829-858

Abstract: We study a world with national external economies of scale at the industry level. In contrast to the standard treatment with perfect competition and two industries, we assume Bertrand competition in a continuum of industries. With Bertrand competition, each firm can internalize the externalities from production by setting a price below those set by others. This out-of-equilibrium threat eliminates many of the "pathologies" of the standard treatment. There typically exists a unique equilibrium with trade guided by "natural" comparative advantage. And, when a country has CES preferences and any finite elasticity of substitution between goods, gains from trade are ensured.

Date: 2010
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Working Paper: External Economies and International Trade Redux (2008)
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