A Product-Quality View of the Linder Hypothesis
The Linder hypothesis states that countries of similar income per capita should trade more intensely with one another. This hypothesis has attracted substantial research over decades, but the empirical evidence has failed to provide consistent support for it. This paper shows that the reason for the failure is the use of an inappropriate empirical benchmark, the gravity equation estimated using trade data aggregated across sectors. The paper builds a theoretical framework in which, as in Linder's theory, product quality plays the central role. A formal derivation of the Linder hypothesis is obtained, but this hypothesis is shown to hold only if it is formulated as a sector-level prediction. The "sectoral Linder hypothesis" is then estimated on a sample of 64 countries in 1995. The results support the prediction: after controlling for inter-sectoral determinants of trade, countries of similar per-capita income trade more intensely with one another. The paper also shows that a systematic aggregation bias explains the failure of the previous empirical literature to find support for Linder's theory.
I thank Alan Deardorff for numerous discussions and comments on the contents of this paper. I also thank Martin Daneri, Elhanan Helpman, Jim Levinsohn, Marc Melitz, Gary Solon, Walter Sosa Escudero, and seminar participants at Michigan State, Princeton, Syracuse and the NBER Summer Institute for helpful comments and suggestions. Tomas Castagnino, Isao Kamata, and Alejandro Molnar provided outstanding research assistance.
Juan Carlos Hallak, 2010. "A Product-Quality View of the Linder Hypothesis," The Review of Economics and Statistics, MIT Press, vol. 92(3), pages 453-466, 09. citation courtesy of