Linder Hypothesis Essay ⋆ Business Essay Examples ⋆ EssayEmpire

The Linder hypothesis states that countries with similar per capita incomes tend to trade more intensively with each other. The claim originated in 1961 with Swedish economist Staffan Linder, who observed that countries with similar incomes also tend to have similar preferences. Domestic manufacturers that primarily produce for the domestic market will seek out export markets in countries whose citizens have similar incomes and preferences. Thus, high-income countries will specialize in different versions of high-quality goods for trade among themselves. As a result, trade in similarly capital-intensive goods flourishes among countries with similar capital-labor ratios (e.g., automobile trade between the United States, Europe, and Japan). Though considerable anecdotal evidence of the Linder hypothesis exists, systematic research on the subject has yielded mixed results.

The Linder hypothesis is one attempt to reconcile the Heckscher-Ohlin model of international trade theory with empirical evidence on trade flows. In the Heckscher-Ohlin model, comparative advantage is a result of differences in factor endowments. Countries with more capital per worker should, according to the theory, export goods that use capital more intensively than they use labor and import goods that use labor more intensively. If trade flows follow the predictions of the Heckscher-Ohlin model, one would expect to find that the developed (capital-rich) countries such as the United States export capital-intensive goods and import labor-intensive goods.

However, empirical studies have not always confirmed the Heckscher-Ohlin predictions. Using input/output data for the United States for 1947, economist Wassily Leontief showed that the capital/labor ratio in imports was higher than the capital/labor ratio in exports. This is the opposite of what the Heckscher Ohlin model predicts and became known as the Leontief paradox. The Linder hypothesis, which can be an equilibrium in theoretical models if capital intensity is related to income elasticity of demand, can partially explain this paradox by producing the requisite amount of trade in capital-intensive goods between similarly developed countries. This could explain the higher capital/labor ratio present in imports for some developed countries. While the Linder hypothesis and the Leontief paradox are related in this way, the paradox, nor is it a necessary component of any proposed solution to the paradox.

Indeed, as Edward Leamer points out, the Leontief paradox can be resolved in an extension of the Heckscher-Ohlin model to more than two goods (the Heckscher-Ohlin-Vanek model). In the same way, if confirmation of the Linder hypothesis is to be found, it will be in the context of a multigood model of trade. This is fundamentally a consequence of the fact that the Linder hypothesis is directly linked to intraindustry trade—that is, trade in similar goods or goods with subtle differences in variety or quality. A model explaining this feature of trade must have more than two goods.

The empirical validity of the Linder hypothesis itself has been at issue since its first exposition. Studies that use highly aggregated categories of goods have not always found statistical evidence of the hypothesis. Disaggregated studies have had more success as the hypothesis may hold better for individual subsets of goods whereas the effect is harder to detect on average, a situation known as aggregation bias.

In general, explaining the high level of intraindustry trade is a challenge for basic models such as the Heckscher-Ohlin model. Confirmation of the Linder hypothesis and explanation of intraindustry trade both require a further level of detail capable of allowing a connection between trade patterns and domestic consumer preferences.

Bibliography:

Robert Baldwin, “Determinants of the Commodity Structure of U.S. Trade,” American Economic Review (v.61/1, 1971);
Changkyu Choi, “Linder Hypothesis Revisited,” Applied Economics Letters (v.9/9, 2002);
Catherine Y. Co, “Factors That Account for the Large Variations in US Export Prices,” Review of World Economics (v.143/3, 2007);
Muhammed Dalgin, Vitor Trindade, and Devashish Mitra, “Inequality, Nonhomothetic Preferences, and Trade: A Gravity Approach,” Southern Economic Journal (v.74/3, 2008);
Juan Carlos Hallak, “A Product-Quality View of the Linder Hypothesis,” NBER Working Paper W12712 (December 2006);
Linda C. Hunter and James R. Markusen, “Per-Capita Income As a Determinant of Trade,” in Empirical Methods for International Trade, Robert C. Feenstra, ed. (MIT Press, 1988);
Edward E. Leamer, “The Leontief Paradox, Reconsidered,” Journal of Political Economy (v.88/3, 1980);
Staffan Linder, An Essay on Trade and Trans-formation (Almqvist and Wiksells, 1961);
James R. Markusen, “Explaining the Volume of Trade: An Eclectic Approach,” American Economic Review (v.76/5, 1986);
Jerry G. Thursby and Marie C. Thursby, “Bilateral Trade Flows, the Linder Hypothesis, and Exchange Risk,” The Review of Economics and Statistics (v.69/3, 1987).

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