Trading Tasks and Quality

Aug 2019 |

Authors: F. Banu Demir

I present a trade model featuring North-South differences in demand for quality and in quality of task supply.  The model explains a number of stylised facts: Southern firms charge higher factory-gate prices for their products in rich than in poor, and in distant than in near markets.  The model predicts that firms vary the quality of their products across  markets by changing, between varieties, the fractions of low and high-quality tasks.  This mechanism for quality differentiation introduces a new margin to trade: the extensive margin of intermediate imports.  Extension of the model to general equilibrium with heterogeneous firms shows that even under low fixed and zero variable trade costs, only the more productive Southern firms export to the rich Northern market.  Compared to their domestic market, they charge higher prices in the North, with the most productive ones earning higher revenues.

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