Product differentiation and the role of financial frictions in the great trade collapse

Available from: 
October 2013
Paper author(s): 
Jorge Salas (University of Maryland)
Globalization and Trade

The evidence shows different price and quantity responses between sectors producing non-differentiated and differentiated goods during the 2008-2009 international trade collapse. Similar patterns of sectoral adjustment have been documented in past recessions. I investigate whether financial frictions that disproportionately affect differentiated goods industries are a likely explanation for these findings. First, I use micro-level data to examine indicators of several potential sources of financial dependence, and review related empirical literature on contract enforcement. In light of the empirical evidence, I then construct and solve a tractable model with heterogeneous firms and contractually-vulnerable exporters. A key element in this theory is the interaction between a countercyclical risk of importers’ default and sector-specific frictions reflecting contractual imperfections that are relatively more harmful for exporters of differentiated goods. A quantitative exercise illustrates that these financial frictions indeed help explain key features of the observed sectoral price and quantity responses during the trade collapse, but other non-financial arguments (related to the differing degrees of monopoly power) appear to play an arguably more important role.


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Research section: 
Lacea 2013 annual meeting
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