DP4468 Testing the Home Market Effect in a Multi-Country World: The Theory

Author(s): Kristian Behrens, Andrea Lamorgese, Gianmarco Ottaviano, Takatoshi Tabuchi
Publication Date: July 2004
Keyword(s): economic geography, home market effect, hub effect, market potential, new trade theory
JEL(s): F12, R11, R12
Programme Areas: International Trade and Regional Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=4468

We extend the model by Krugman (1980) to a multi-country set-up and show that the ?home-market effect? highlighted with two countries does not readily extend to such a general setting. In particular, we prove that the most important result, namely the disproportionate causation from demand to supply, generalizes only under the fairly implausible assumption of pairwise symmetric trade costs between all countries. We argue, therefore, that the implications of product differentiation for the structure of world trade are better characterized in terms of spatial (?accessibility?) and non-spatial (?attraction?) effects, and we provide a theory-based specification that suggests how to test the home market effect in such a general setting.