A Model of Trade with Endogenous Product Design

Pak Hung Au () and Xiaoping Chen ()
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Pak Hung Au: Department of Economics, The Hong Kong University of Science and Technology
Xiaoping Chen: Division of Economics, Nanyang Technological University

No 201901, HKUST CEP Working Papers Series from HKUST Center for Economic Policy

Abstract: We study a model of international trade in which firms choose between a board product design that targets mainstream consumers, and a niche product design that targets specific market segments. Assuming that local firms have absolute advantage in providing niche products to the local market, we show that in equilibrium, the more efficient firms adopt a board design and export whereas the less efficient firms adopt a niche design and do not export. A reduction in trade cost encourages efficient firms to adopt a board design and export, whereas it encourages inefficient firms to adopt a niche design. Consequently, trade liberalization changes the composition of product designs available in the market, which in turn affects consumers' welfare. Our analysis illustrates a novel possibility that certain stage of trade liberalization could have a negative impact on welfare if it leads to an increase in the proportion of firms adopting board designs that provide a low consumer surplus. A negative pro-competitive effect may arise when more firms are choosing niche designs after trade liberalization.

Keywords: Product design; Heterogeneous firms; Trade liberalization; Consumer search (search for similar items in EconPapers)
JEL-codes: F10 F12 L15 (search for similar items in EconPapers)
Date: 2019-10
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