International Trade, Domestic Market Potential and Income in Developing Asia

We derive a Frankel-Romer instrument from a global trade matrix of 157 countries over the period 1990-2007, and deploy it to assess the relationship between international trade, domestic market potential and income for the case of developing Asia, compared to the world average. The findings from panel instrumental variable regression confirm international trade to have caused income to rise on average across all the trading nations, but particularly so for countries of developing Asia, where this effect appears to be strongest. By contrast, domestic trade potential as explained by country size is found to be less relevant a factor explaining the rise in income of developing Asia. In light of a likely softening of external demand for Asian exports, as global rebalancing will take hold, Asia's underexploited domestic market potential represents considerable scope for the region to step up its efforts to gradually reinforce the domestic and regional dimensions as an additional engine of growth