Endogenous Product Differentiation,Market Size and Prices |
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| Authors: | Shon M Ferguson |
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| Institution: | Research Institute of International Economics, Stockholm, SwedenThe author thanks Gregory Corcos, Karolina Ekholm, Rikard Forslid, Henrik Horn, Toshihiro Okubo, Philippe Martin and seminar participants at Stockholm University, the Institute of Industrial Economics and the European Trade Study Group for valuable comments and suggestions. Financial support from the Wallander Hedelius Foundation, the Marianne and Marcus Wallenberg Foundation and the Swedish Research Council is gratefully acknowledged. This paper was earlier circulated under the title “A Model of Ideal Differentiation and Trade”. |
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| Abstract: | This paper provides a framework to understand how market size affects firms' investments in product differentiation in a model of monopolistic competition. The theory proposes that consumers' love of variety makes them more sensitive to product differentiation efforts by firms, which leads to more differentiated products in larger markets. The framework also predicts an inverted U ‐shaped effect of trade liberalization on product differentiation, with trade liberalization leading to more differentiated products when starting from autarky but then leading to less differentiated products as the countries approach free trade. |
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