Trade Development and Political Economy Presents: Hylke Vandenbussche

Trade Development and Political Economy Presents: Hylke Vandenbussche Verti-zontal Differentiation in Monopolistic Competition Modern Existing trade models that guide empirical research do not seem to perform well in explaining firm-product level prices and sales. In response to this growing evidence, this paper aims to generalize a model of quadratic preferences in a way not done previously. Starting from a model with cost and quality differences, we argue that an important source of heterogeneity, overlooked in the existing trade models, is the heterogeneity of consumers’ tastes across varieties. By allowing each firm-product to enter consumer preferences in a non-symmetric way, we show how taste heterogeneity interacts with quality and cost heterogeneity to shape the market outcome. Embedding market-variety specific tastes, in a model with firm-product cost and quality differences, generates a new set of predictions that appear much more in line with recent micro-data evidence in the literature. Indeed, using a unique micro-level dataset on Belgian exporters with product and destination market information, is a first confirmation that in addition to cost and quality, "accounting for taste" in trade matters. Hylke Vandenbussche is Professor International Economics (Chaire Jacquemin) at IRES-CORE at the Université Catholique de Louvain in Belgium. Her research interests lie at the intersection of international trade and industrial organization.