DP17385 Global Innovation and Knowledge Diffusion
We develop a Ricardian model of trade in which countries innovate ideas that diffuse globally. The forces of innovation and diffusion combine to shape expenditure substitution patterns. Innovation makes a country technologically distinct, reducing their substitutability with other countries, while diffusion generates technological similarity and increases head-to-head competition. In the special case of an innovation-only model where countries do not share ideas, productivities are independent across space, and expenditure is CES. Consequently, departures from CES expenditure reveal diffusion patterns. Our theoretical results provide a mapping between the dynamics of observable expenditure and the dynamics of innovation and knowledge diffusion.