World trade patterns and prices: The role of productivity and quality heterogeneity

This paper analyzes the role of product quality and labor efficiency in shaping the trade patterns and trade intensities within and across two groups of countries, the developed and richer North and the developing South. Recent empirical literature identifies two groups of evidence — the product lines evidence on different export strategies and sources of competitiveness across product groups and countries, and the aggregate trade flows evidence on a positive relation between the income per capita and both export and import prices (also conditional on the exporter). We attempt to provide a theoretical background for these findings and focus on the North–South productivity differences in a four country North–South trade model with two dimensions of firm heterogeneity. Differences in the firms' product quality and cost efficiency impose different competitiveness sources when entering more difficult markets and result in the observed export and import prices and consumption bundles across the rich and poor countries.