Cultural Proximity and Production Networks

Brian Cevallos Fujiy, Gaurav Khanna and Hiroshi Toma
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Brian Cevallos Fujiy: University of Michigan
Gaurav Khanna: University of California San Diego

No 686, Working Papers from Research Seminar in International Economics, University of Michigan

Abstract: We examine how cultural proximity shapes production networks, and how it affects aggregate welfare and productivity. We combine a new dataset of firm-to-firm trade for a large Indian state with information on cultural proximity between firms derived from IndiaÕs caste and religious classifications. We find that larger cultural proximity between a pair of firms reduces prices and fosters trade at both intensive and extensive margins. We argue that these results are driven by increasing trust between firms due to their cultural proximity, which in turn solves contracting frictions. Guided by these stylized facts, we propose a quantitative firm-level production network model, where cultural proximity influences trade and matching costs. We derive estimable equations from the model and estimate the model parameters leveraging variation in the cultural group composition of firm owners. We quantify the welfare and productivity consequences of implementing social inclusion policies that shape the formation of production networks. Our counterfactual exercises indicate that social inclusion policies can raise welfare by as much as 1.76%, while social isolation lowers welfare by 1.45%. Reducing contracting frictions increases welfare by 0.87% via the channel of trade becoming less reliant on cultural proximity.

Keywords: cultural proximity; production networks; firm-to-firm trade (search for similar items in EconPapers)
JEL-codes: D51 F19 O17 (search for similar items in EconPapers)
Pages: 54 pages
Date: 2022-11
New Economics Papers: this item is included in nep-bec and nep-soc
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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