Law of One Price, Distance, and Borders

Fernando Borraz and Leandro Zipitria

No 2016007, Documentos de trabajo from Banco Central del Uruguay

Abstract: We propose a decomposition of the border effect in international trade by controlling for differences in competition in local markets. An extension of the Hotelling (1929) model shows that the availability of local substitutes increases price dispersion and biases the estimation of the border effect. We test these predictions using detailed price database at the supermarket level for Uruguay. This stylized setting makes it possible to control for other potential explanations of the border effect (i.e., exchange rates, taxes, or transport costs). We find that for those goods without local competitors the border estimation increases substantially, while for those goods that do have local competitors the effect of border is negligible. As the literature suggests, results should be even larger for different countries than for different cities. The methodology developed in the paper allows a finer explanation for understanding the relevance of borders in price dispersion.

Keywords: border effect; price dispersion; competition (search for similar items in EconPapers)
JEL-codes: F14 F15 L13 (search for similar items in EconPapers)
Pages: 40 pages
Date: 2016
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Related works:
Working Paper: Law of One Price, Distance, and Borders (2017)
Working Paper: Law of One Price, Distance, and Borders (2017)
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