Product Diversity, Trade, and Welfare

A two-sector general equilibrium model, where one sector features monopolistic competition, is employed to show that the opening up of international trade migh decrease the likelihood that a market economy exhibits excessive brand proliferation, relative to a first best optimum. The paper also considers the welfare improving potential of the second-best regulatory policies. One is a behavioral regulation that controls each firm's output, but leaves entry and exit free; the other is a structural regulation that determines the number of firms active on the market, but leaves to each firm to determine its output level. It is shown that the opening up of international trade tends to make structural regulation relatively more welfare improving than behavioral regulation