International Trade when Inequality Affects Aggregate Demand

Maurice Kugler ()

No 118, Royal Economic Society Annual Conference 2002 from Royal Economic Society

Abstract: The model derives the pattern of international trade between rich and poor countries, when preferences are nonhomothetic. By and large, models of the dynamics of North-South trade impose the assumption of unit income elasticity for all consumption goods. This assumption is relaxed to incorporate the insight from Engelís Law: The budget share allocated to necessities falls with income. To account for the impact of income distribution, preferences are such that consumers rank indivisible goods according to a hierarchy of both needs and desires. The composition of the aggregate consumption basket in the integrated economy depends on both inter- and intra-national inequality. Empirical evidence from a panel of bilateral trade data among 57 countries, for which adequate income distribution measures exist, and spanning three decades supports the conjecture that high inequality in a trading partner yields less bilateral trade flows through lower imports, after controlling for both observed and unobserved heterogeneity.

Date: 2002-08-29
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