IDEAS home Printed from https://ideas.repec.org/p/luc/wpaper/23-02.html
   My bibliography  Save this paper

On the effects of income heterogeneity in monopolistically competitive markets

Author

Listed:
  • Sergei Kichko

    (University of Trento, IT)

  • Pierre M. Picard

    (DEM, Université du Luxembourg)

Abstract

This paper studies the market and welfare effects of income heterogeneity in monopo- listically competitive product markets in the context of nonhomothetic preferences. In a closed economy, where richer individuals' expenditures are less sensitive to price change compared to poorer ones', a mean-preserving contraction of income distribution entices firms to charge higher markups, reduce output, and fosters creation of new varieties. General equilibrium effects have a negative impact on poorer individuals and, in specific circumstances, on the whole population. In an open economy with free trade, lower in- come inequality in one country creates price divergence between trading countries. Lower inequality not only further decreases trade volumes and values but also creates a general equilibrium effect that may negatively affect poor individuals. Finally, general equilibrium effects are shown to be quantitatively nonnegligible.

Suggested Citation

  • Sergei Kichko & Pierre M. Picard, 2023. "On the effects of income heterogeneity in monopolistically competitive markets," DEM Discussion Paper Series 23-02, Department of Economics at the University of Luxembourg.
  • Handle: RePEc:luc:wpaper:23-02
    as

    Download full text from publisher

    File URL: http://hdl.handle.net/10993/55166
    Download Restriction: no
    ---><---

    Other versions of this item:

    References listed on IDEAS

    as
    1. Michael Spence, 1976. "Product Selection, Fixed Costs, and Monopolistic Competition," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 43(2), pages 217-235.
    2. Emi Nakamura & Dawit Zerom, 2010. "Accounting for Incomplete Pass-Through," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 77(3), pages 1192-1230.
    3. McCarthy, Patrick S, 1996. "Market Price and Income Elasticities of New Vehicles Demand," The Review of Economics and Statistics, MIT Press, vol. 78(3), pages 543-547, August.
    4. Christian Broda & David E. Weinstein, 2006. "Globalization and the Gains From Variety," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 121(2), pages 541-585.
    5. Jan De Loecker & Pinelopi K. Goldberg & Amit K. Khandelwal & Nina Pavcnik, 2016. "Prices, Markups, and Trade Reform," Econometrica, Econometric Society, vol. 84, pages 445-510, March.
    6. Mrázová, Monika & Neary, J. Peter, 2020. "IO for exports(s)," International Journal of Industrial Organization, Elsevier, vol. 70(C).
    7. Yeaple, Stephen Ross, 2005. "A simple model of firm heterogeneity, international trade, and wages," Journal of International Economics, Elsevier, vol. 65(1), pages 1-20, January.
    8. Bekkers, Eddy & Francois, Joseph & Manchin, Miriam, 2012. "Import prices, income, and inequality," European Economic Review, Elsevier, vol. 56(4), pages 848-869.
    9. Evgeny Zhelobodko & Sergey Kokovin & Mathieu Parenti & Jacques‐François Thisse, 2012. "Monopolistic Competition: Beyond the Constant Elasticity of Substitution," Econometrica, Econometric Society, vol. 80(6), pages 2765-2784, November.
    10. Pablo Fajgelbaum & Gene M. Grossman & Elhanan Helpman, 2011. "Income Distribution, Product Quality, and International Trade," Journal of Political Economy, University of Chicago Press, vol. 119(4), pages 721-765.
    11. Head, Keith & Mayer, Thierry, 2004. "The empirics of agglomeration and trade," Handbook of Regional and Urban Economics, in: J. V. Henderson & J. F. Thisse (ed.), Handbook of Regional and Urban Economics, edition 1, volume 4, chapter 59, pages 2609-2669, Elsevier.
    12. José Manuel Campa & Linda S. Goldberg, 2005. "Exchange Rate Pass-Through into Import Prices," The Review of Economics and Statistics, MIT Press, vol. 87(4), pages 679-690, November.
    13. Kristian Behrens & Yasusada Murata, 2012. "Globalization and Individual Gains from Trade (revised version)," Cahiers de recherche 1218, CIRPEE.
    14. Gita Gopinath & Oleg Itskhoki, 2010. "Frequency of Price Adjustment and Pass-Through," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 125(2), pages 675-727.
    15. Keith Head & John Ries, 2001. "Increasing Returns versus National Product Differentiation as an Explanation for the Pattern of U.S.-Canada Trade," American Economic Review, American Economic Association, vol. 91(4), pages 858-876, September.
    16. Ana Cecília Fieler, 2011. "Nonhomotheticity and Bilateral Trade: Evidence and a Quantitative Explanation," Econometrica, Econometric Society, vol. 79(4), pages 1069-1101, July.
    17. Milton Friedman, 1957. "Introduction to "A Theory of the Consumption Function"," NBER Chapters, in: A Theory of the Consumption Function, pages 1-6, National Bureau of Economic Research, Inc.
    18. Feenstra, Robert C., 2003. "A homothetic utility function for monopolistic competition models, without constant price elasticity," Economics Letters, Elsevier, vol. 78(1), pages 79-86, January.
    19. Nick Jacob & Giordano Mion, 2024. "On the productivity advantage of cities," Journal of Economic Geography, Oxford University Press, vol. 24(5), pages 679-705.
    20. Tarasov Alexander, 2009. "Income Distribution, Market Structure, and Individual Welfare," The B.E. Journal of Theoretical Economics, De Gruyter, vol. 9(1), pages 1-39, December.
    21. Hartmut Egger & Udo Kreickemeier, 2017. "Firm Heterogeneity and the Labor Market Effects of Trade Liberalization," World Scientific Book Chapters, in: International Trade and Labor Markets Welfare, Inequality and Unemployment, chapter 10, pages 265-306, World Scientific Publishing Co. Pte. Ltd..
    22. repec:hal:wpspec:info:hdl:2441/10191 is not listed on IDEAS
    23. Felbermayr, Gabriel & Prat, Julien & Schmerer, Hans-Jörg, 2011. "Globalization and labor market outcomes: Wage bargaining, search frictions, and firm heterogeneity," Journal of Economic Theory, Elsevier, vol. 146(1), pages 39-73, January.
    24. Elhanan Helpman & Oleg Itskhoki & Stephen Redding, 2010. "Inequality and Unemployment in a Global Economy," Econometrica, Econometric Society, vol. 78(4), pages 1239-1283, July.
    25. Monika Mrázová & J. Peter Neary, 2017. "Not So Demanding: Demand Structure and Firm Behavior," American Economic Review, American Economic Association, vol. 107(12), pages 3835-3874, December.
    26. Mary Amiti & Oleg Itskhoki & Jozef Konings, 2019. "International Shocks, Variable Markups, and Domestic Prices," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 86(6), pages 2356-2402.
    27. Dixit, Avinash K & Stiglitz, Joseph E, 1977. "Monopolistic Competition and Optimum Product Diversity," American Economic Review, American Economic Association, vol. 67(3), pages 297-308, June.
    28. Ina Simonovska, 2015. "Income Differences and Prices of Tradables: Insights from an Online Retailer," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 82(4), pages 1612-1656.
    29. Kichko, Sergey & Kokovin, Sergey & Zhelobodko, Evgeny, 2014. "Trade patterns and export pricing under non-CES preferences," Journal of International Economics, Elsevier, vol. 94(1), pages 129-142.
    30. Reinert, Kenneth A. & Roland-Holst, David W., 1992. "Armington elasticities for United States manufacturing sectors," Journal of Policy Modeling, Elsevier, vol. 14(5), pages 631-639, October.
    31. Falkinger, Josef & Zweimuller, Josef, 1996. "The cross-country Engel curve for product diversification," Structural Change and Economic Dynamics, Elsevier, vol. 7(1), pages 79-97, March.
    32. Monika Mrázová & J. Peter Neary & Mathieu Parenti, 2021. "Sales and Markup Dispersion: Theory and Empirics," Econometrica, Econometric Society, vol. 89(4), pages 1753-1788, July.
    33. Kiminori Matsuyama, 2000. "A Ricardian Model with a Continuum of Goods under Nonhomothetic Preferences: Demand Complementarities, Income Distribution, and North-South Trade," Journal of Political Economy, University of Chicago Press, vol. 108(6), pages 1093-1120, December.
    34. Chad Syverson, 2007. "Prices, Spatial Competition And Heterogeneous Producers: An Empirical Test," Journal of Industrial Economics, Wiley Blackwell, vol. 55(2), pages 197-222, June.
    35. Behrens, Kristian & Murata, Yasusada, 2012. "Globalization and individual gains from trade," Journal of Monetary Economics, Elsevier, vol. 59(8), pages 703-720.
    36. Choi, Yo Chul & Hummels, David & Xiang, Chong, 2009. "Explaining import quality: The role of the income distribution," Journal of International Economics, Elsevier, vol. 78(2), pages 293-303, July.
    37. repec:hal:spmain:info:hdl:2441/10191 is not listed on IDEAS
    38. Muhammed Dalgin & Vitor Trindade & Devashish Mitra, 2008. "Inequality, Nonhomothetic Preferences, and Trade: A Gravity Approach," Southern Economic Journal, John Wiley & Sons, vol. 74(3), pages 747-774, January.
    39. Simon Cowan, 2012. "Third-Degree Price Discrimination and Consumer Surplus," Journal of Industrial Economics, Wiley Blackwell, vol. 60(2), pages 333-345, June.
    40. Ronald W. Jones, 2018. "The Structure of Simple General Equilibrium Models," World Scientific Book Chapters, in: International Trade Theory and Competitive Models Features, Values, and Criticisms, chapter 4, pages 61-84, World Scientific Publishing Co. Pte. Ltd..
    41. Robert C. Feenstra & Philip Luck & Maurice Obstfeld & Katheryn N. Russ, 2018. "In Search of the Armington Elasticity," The Review of Economics and Statistics, MIT Press, vol. 100(1), pages 135-150, March.
    42. Ina Simonovska, 2009. "Income Differences and Prices of Tradables," 2009 Meeting Papers 692, Society for Economic Dynamics.
    43. Iñaki Aguirre & Simon Cowan & John Vickers, 2010. "Monopoly Price Discrimination and Demand Curvature," American Economic Review, American Economic Association, vol. 100(4), pages 1601-1615, September.
    44. Kevin M. Murphy & Andrei Shleifer & Robert Vishny, 1989. "Income Distribution, Market Size, and Industrialization," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 104(3), pages 537-564.
    45. Holmes, Thomas J, 1989. "The Effects of Third-Degree Price Discrimination in Oligopoly," American Economic Review, American Economic Association, vol. 79(1), pages 244-250, March.
    46. Muhammed Dalgin & Vitor Trindade & Devashish Mitra, 2008. "Inequality, Nonhomothetic Preferences, and Trade: A Gravity Approach," Southern Economic Journal, John Wiley & Sons, vol. 74(3), pages 747-774, January.
    47. Paolo Bertoletti & Federico Etro & Ina Simonovska, 2018. "International Trade with Indirect Additivity," American Economic Journal: Microeconomics, American Economic Association, vol. 10(2), pages 1-57, May.
    48. Head, Keith & Mayer, Thierry, 2004. "The empirics of agglomeration and trade," Handbook of Regional and Urban Economics, in: J. V. Henderson & J. F. Thisse (ed.), Handbook of Regional and Urban Economics, edition 1, volume 4, chapter 59, pages 2609-2669, Elsevier.
    49. Milton Friedman, 1957. "A Theory of the Consumption Function," NBER Books, National Bureau of Economic Research, Inc, number frie57-1.
    50. Pablo D. Fajgelbaum, 2011. "Income Distribution, Product Quality and International Trade," 2011 Meeting Papers 415, Society for Economic Dynamics.
    51. Swati Dhingra & John Morrow, 2019. "Monopolistic Competition and Optimum Product Diversity under Firm Heterogeneity," Journal of Political Economy, University of Chicago Press, vol. 127(1), pages 196-232.
    52. Kim J. Ruhl, 2008. "The International Elasticity Puzzle," Working Papers 08-30, New York University, Leonard N. Stern School of Business, Department of Economics.
    53. Robert A. Pollak, 1971. "Additive Utility Functions and Linear Engel Curves," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 38(4), pages 401-414.
    54. Hummels, David & Lee, Kwan Yong, 2018. "The income elasticity of import demand: Micro evidence and an application," Journal of International Economics, Elsevier, vol. 113(C), pages 20-34.
    55. Kai-Uwe Kuhn & Xavier Vives, 1999. "Excess Entry, Vertical Integration, and Welfare," RAND Journal of Economics, The RAND Corporation, vol. 30(4), pages 575-603, Winter.
    56. Foellmi, Reto & Zweimuller, Josef, 2004. "Inequality, market power, and product diversity," Economics Letters, Elsevier, vol. 82(1), pages 139-145, January.
    57. Karen E. Dynan & Jonathan Skinner & Stephen P. Zeldes, 2004. "Do the Rich Save More?," Journal of Political Economy, University of Chicago Press, vol. 112(2), pages 397-444, April.
    58. Flam, Harry & Helpman, Elhanan, 1987. "Vertical Product Differentiation and North-South Trade," American Economic Review, American Economic Association, vol. 77(5), pages 810-822, December.
    59. Xavier Vives, 2001. "Oligopoly Pricing: Old Ideas and New Tools," MIT Press Books, The MIT Press, edition 1, volume 1, number 026272040x, April.
    60. Bergstrand, Jeffrey H. & Egger, Peter & Larch, Mario, 2013. "Gravity Redux: Estimation of gravity-equation coefficients, elasticities of substitution, and general equilibrium comparative statics under asymmetric bilateral trade costs," Journal of International Economics, Elsevier, vol. 89(1), pages 110-121.
    Full references (including those not matched with items on IDEAS)

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Kichko, Sergei & Picard, Pierre M., 2024. "Market size, income heterogeneity, and trade," Economics Letters, Elsevier, vol. 235(C).
    2. Jaimovich, Esteban & Merella, Vincenzo, 2015. "Love for quality, comparative advantage, and trade," Journal of International Economics, Elsevier, vol. 97(2), pages 376-391.
    3. Kiminori Matsuyama, 2019. "Engel's Law in the Global Economy: Demand‐Induced Patterns of Structural Change, Innovation, and Trade," Econometrica, Econometric Society, vol. 87(2), pages 497-528, March.
    4. Andrea Ciani, 2021. "Income inequality and the quality of imports," Review of World Economics (Weltwirtschaftliches Archiv), Springer;Institut für Weltwirtschaft (Kiel Institute for the World Economy), vol. 157(2), pages 375-416, May.
    5. Monika Mrázová & J. Peter Neary, 2017. "Not So Demanding: Demand Structure and Firm Behavior," American Economic Review, American Economic Association, vol. 107(12), pages 3835-3874, December.
    6. Wen-Tai Hsu & Lin Lu & Pierre M. Picard, 2023. "Income inequality, productivity, and international trade," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 76(1), pages 203-249, July.
    7. Hartmut Egger & Simone Habermeyer, 2019. "Nonhomothetic preferences and rent sharing in an open economy," CESifo Working Paper Series 7522, CESifo.
    8. Mrázová, Monika & Neary, J. Peter, 2020. "IO for exports(s)," International Journal of Industrial Organization, Elsevier, vol. 70(C).
    9. Sergey Kokovin & Alina Ozhegova & Shamil Sharapudinov & Alexander Tarasov & Philip Ushchev, 2024. "A Theory of Monopolistic Competition with Horizontally Heterogeneous Consumers," American Economic Journal: Microeconomics, American Economic Association, vol. 16(2), pages 354-384, May.
    10. Parenti, Mathieu & Ushchev, Philip & Thisse, Jacques-François, 2017. "Toward a theory of monopolistic competition," Journal of Economic Theory, Elsevier, vol. 167(C), pages 86-115.
    11. Christian Hepenstrick & Alexander Tarasov, 2015. "Per capita income and the extensive margin of bilateral trade," Canadian Journal of Economics/Revue canadienne d'économique, John Wiley & Sons, vol. 48(4), pages 1561-1599, November.
    12. Heiland, Inga & Kohler, Wilhelm, 2022. "Heterogeneous workers, trade, and migration," European Economic Review, Elsevier, vol. 144(C).
    13. Chen, Natalie & Juvenal, Luciana, 2022. "Markups, quality, and trade costs," Journal of International Economics, Elsevier, vol. 137(C).
    14. A. Auer, Raphael & Chaney, Thomas & Sauré, Philip, 2018. "Quality pricing-to-market," Journal of International Economics, Elsevier, vol. 110(C), pages 87-102.
    15. Behrens, Kristian & Murata, Yasusada, 2012. "Globalization and individual gains from trade," Journal of Monetary Economics, Elsevier, vol. 59(8), pages 703-720.
    16. P. M. Picard & A. Tampieri, 2021. "Vertical differentiation and trade among symmetric countries," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 71(4), pages 1319-1355, June.
    17. Etro, Federico, 2017. "Research in economics and monopolistic competition," Research in Economics, Elsevier, vol. 71(4), pages 645-649.
    18. Joachim Stibora & Albert de Vaal, 2015. "Does Preferential Trade Benefit Poor Countries? A General Equilibrium Assessment with Nonhomothetic Preferences," Review of International Economics, Wiley Blackwell, vol. 23(2), pages 239-270, May.
    19. Kristian Behrens & Yasusada Murata, 2012. "Globalization and Individual Gains from Trade (revised version)," Cahiers de recherche 1218, CIRPEE.
    20. Head, Keith & Mayer, Thierry, 2014. "Gravity Equations: Workhorse,Toolkit, and Cookbook," Handbook of International Economics, in: Gopinath, G. & Helpman, . & Rogoff, K. (ed.), Handbook of International Economics, edition 1, volume 4, chapter 0, pages 131-195, Elsevier.

    More about this item

    Keywords

    Monopolistic competition; nonhomothetic additive preferences; income inequality; pricing-to-markets; welfare; trade.;
    All these keywords.

    JEL classification:

    • D43 - Microeconomics - - Market Structure, Pricing, and Design - - - Oligopoly and Other Forms of Market Imperfection
    • L16 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Industrial Organization and Macroeconomics; Macroeconomic Industrial Structure
    • F12 - International Economics - - Trade - - - Models of Trade with Imperfect Competition and Scale Economies; Fragmentation

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:luc:wpaper:23-02. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Marina Legrand (email available below). General contact details of provider: https://edirc.repec.org/data/crcrplu.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.