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International arbitrage and the extensive margin of trade between rich and poor countries


Foellmi, Reto; Hepenstrick, Christian; Zweimüller, Josef (2018). International arbitrage and the extensive margin of trade between rich and poor countries. Review of Economic Studies, 85(1):475-510.

Abstract

We incorporate consumption indivisibilities into the Krugman (1980) model and show that an importer's per capita income becomes a primary determinant of “export zeros”. Households in the rich North (poor South) are willing to pay high (low) prices for consumer goods; hence, unconstrained monopoly pricing generates arbitrage opportunities for internationally traded products. Export zeros arise because some northern firms abstain from exporting to the South, to avoid international arbitrage. Rich countries benefit from a trade liberalization, while poor countries lose. These results hold also under more general preferences with both extensive and intensive consumption margins. We show that a standard calibrated trade model (that ignores arbitrage) generates predictions on relative prices that violate no-arbitrage constraints in many bilateral trade relations. This suggests that international arbitrage is potentially important.

Abstract

We incorporate consumption indivisibilities into the Krugman (1980) model and show that an importer's per capita income becomes a primary determinant of “export zeros”. Households in the rich North (poor South) are willing to pay high (low) prices for consumer goods; hence, unconstrained monopoly pricing generates arbitrage opportunities for internationally traded products. Export zeros arise because some northern firms abstain from exporting to the South, to avoid international arbitrage. Rich countries benefit from a trade liberalization, while poor countries lose. These results hold also under more general preferences with both extensive and intensive consumption margins. We show that a standard calibrated trade model (that ignores arbitrage) generates predictions on relative prices that violate no-arbitrage constraints in many bilateral trade relations. This suggests that international arbitrage is potentially important.

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Additional indexing

Item Type:Journal Article, refereed, original work
Communities & Collections:03 Faculty of Economics > Department of Economics
Dewey Decimal Classification:330 Economics
Uncontrolled Keywords:Non-homothetic preferences, parallel imports, arbitrage, extensive margin, export zeros
Language:English
Date:January 2018
Deposited On:23 May 2017 13:33
Last Modified:06 Apr 2019 00:00
Publisher:Oxford University Press
ISSN:0034-6527
OA Status:Green
Publisher DOI:https://doi.org/10.1093/restud/rdx016
Related URLs:https://academic.oup.com/restud/article/3108821/International-Arbitrage-and-the-Extensive-Margin?searchresult=1#78622098

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