Markups, Scale Economies, and Trade

Many trade models assume perfect competition or monopolistic competition with constant, symmetric markups. Once firms have heterogeneous market power and industries differ in returns to scale, familiar policy results need not carry over. Gains from trade depend on where high-markup and scale-intensive production is located; the case for industrial policy becomes stronger, and tariff conflicts become more costly.

Markups as international transfers

A markup transfers surplus as well as distorting output. On domestic sales, the rent moves from domestic consumers to domestic owners. A closed-economy welfare calculation treats this as a distributional transfer rather than a direct national loss. On exports, foreign consumers provide part of the rent. Lashkaripour (AEJ:Micro 2020) shows that rich and geographically remote economies specialize in high-markup product segments within industries. This pattern accounts for roughly 30 percent of measured gains from trade and explains 37 percent of cross-national income inequality. Countries selling differentiated goods with few close substitutes extract more surplus per unit sold.

Ding, Lashkaripour, and Lugovskyy (2026) call these markup wedges shadow tariffs because they have the same effect as tariffs on the allocation of international surplus. High-income countries capture a disproportionate share of global excess profits, equivalent on average to a 17.6 percent shadow tariff. A reciprocity calculation based only on observed tariffs misses this markup-induced transfer.

Scale economies and misallocation

Scale economies create a related allocation problem. When average costs fall with output, the efficient allocation may concentrate production in fewer locations. Decentralized markets need not produce that allocation because individual firms do not internalize the cost savings from sectoral expansion. Lashkaripour and Lugovskyy (AER 2023) study markups and scale economies together. They find that tariffs and export subsidies alone do little to correct misallocation when both distortions are present. Unilateral industrial policy can perform better in principle, but terms-of-trade deterioration may produce immiserizing growth.

The cost of conflict, the value of coordination

Lashkaripour (JIE 2021) quantifies a global tariff war when markups differ across sectors and countries. These markup wedges make the welfare losses larger than in a constant-markup model and raise the corresponding gains from cooperation. The papers collected here share a common implication: market power and scale economies create cross-border distortions that unilateral policy may leave in place or worsen. Deep agreements can internalize those effects and deliver gains unavailable under unilateral action.