Working Paper: CEPR ID: DP8999
Authors: Justin Caron; Thibault Fally; James R. Markusen
Abstract: International trade theory is a general-equilibrium discipline, yet most of the standard portfolio of research focuses on the production side of general equilibrium. In addition, we do not have a good understanding of the relationship between characteristics of goods in production and characteristics of preferences. This paper conducts an empirical investigation into the relationship between a good's factor intensity in production and its income elasticity of demand in consumption. In particular, we find a strong and significant positive relationship between skilled-labor intensity in production and income elasticity of demand for several types of preferences, with and without accounting for trade costs and differences in prices. Counter-factual simulations yield a number of results. We can explain about half of ?missing trade?, and show an important role for per-capita income in understanding trade/GDP ratios, the choice of trading partners, and the composition of trade. Furthermore, an equal rise in productivity in all sectors in all countries leads to a rising skill premium in all countries, with particularly large increases in developing countries.
Keywords: gravity; income; missing trade; non-homothetic preferences; skill premium
JEL Codes: F10; F16; J31; O10
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| skilled labor intensity in production (J24) | income elasticity of demand (D12) |
| productivity growth (O49) | skill premium (J24) |
| nonhomothetic preferences (D11) | missing trade in factor services (F16) |
| supply-side effects (E65) | income elasticity of demand (D12) |