Market Size, Trade, and Productivity

Marc Melitz and Gianmarco Ottaviano

Chapter 4 in Firms and Workers in a Globalized World:Larger Markets, Tougher Competition, 2021, pp 87-108 from World Scientific Publishing Co. Pte. Ltd.

Abstract: We develop a monopolistically competitive model of trade with firm heterogeneity—in terms of productivity differences—and endogenous differences in the “toughness” of competition across markets—in terms of the number and average productivity of competing firms. We analyse how these features vary across markets of different size that are not perfectly integrated through trade; we then study the effects of different trade liberalization policies. In our model, market size and trade affect the toughness of competition, which then feeds back into the selection of heterogeneous producers and exporters in that market. Aggregate productivity and average mark-ups thus respond to both the size of a market and the extent of its integration through trade (larger, more integrated markets exhibit higher productivity and lower mark-ups). Our model remains highly tractable, even when extended to a general framework with multiple asymmetric countries integrated to different extents through asymmetric trade costs. We believe this provides a useful modelling framework that is particularly well suited to the analysis of trade and regional integration policy scenarios in an environment with heterogeneous firms and endogenous mark-ups.

Keywords: Allocative Efficiency; Immigration; Inequality; Innovation; International Competition; International Trade; Macroeconomic Effects of Globalization; New Economic Geography; New Trade Theory; Offshoring; Regional Decline; Regional Growth; Territories; Waves of Globalization; Winners and Losers from Globalization; Borders; Creative Destruction; Cultural Diversity; Economic Geography; Economic Growth; Firm Heterogeneity; Firms and Workers; Globalization (search for similar items in EconPapers)
JEL-codes: F02 F6 F61 F62 (search for similar items in EconPapers)
Date: 2021
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Related works:
Journal Article: Market Size, Trade, and Productivity (2008)
Working Paper: Market Size, Trade, and Productivity (2008)
Working Paper: Market Size, Trade, and Productivity (2005)
Working Paper: Market Size, Trade, and Productivity (2005)
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