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Home market effect

The home market effect is a hypothesized concentration of certain industries in large markets. The home market effect became part of New Trade Theory. Through trade theory, the home market effect is derived from models with returns to scale and transportation costs. When it is cheaper for an industry to operate in a single country because of returns to scale, an industry will base itself in the country where most of its products are consumed in order to minimize transportation costs.[1] The home market effect implies a link between market size and exports that is not accounted for in trade models based solely on comparative advantage.[2]

The home market effect first proposed by Corden[3] and was developed by Paul Krugman in a 1980 article.[4] Krugman sought to provide an alternative to the Linder hypothesis. Based on recent research, the home market effect confirms Linder's sentiment that a nation's demand is a predicate for its exports, but does not support Linder's claim that differences in countries' preferences impede trade.[5]

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