With this kind of trade based on product differentiation and monopolistic competition, an
additional source of gains from trade for the country is the increase in varieties that become
available. Furthermore, trade may also lead to lower prices for the domestic varieties. These
benefits accrue to consumers generally. The implications of trade for the well-being of different
groups in the country are also modified. First, if most trade is intra-industry, then there may be
little pressure on factor prices caused by inter-industry shifts in factor demand. Second, the gains
from increased variety reduce the loss to factors that suffer income losses due to
Stolper-Samuelson effects. Some may believe they are better off even though they appear to lose
income. In addition, increased international competition drives national production toward
domestic firms with lower costs, a process of restructuring within the national industry.
The second theory is global oligopoly. In some industries, a few large firms account for most
global sales, perhaps because internal scale economies are large. Although we do not have a
single dominant full theory of oligopoly, we can make several observations about oligopoly and
trade. First, scale economies tend to concentrate production in a few production sites. When they
were chosen by the firms, these may have been the lowest-cost sites. Over time production tends
to continue in these sites, even though they may not remain the lowest cost sites if all sites could
achieve the same production scale.
Second, in an oligopoly each large firm should recognize interdependence with the other large
firms—its actions and decisions are likely to elicit responses from the other firms. Competition
then resembles a game, but it is still not clear how the firms should play the game. If they
compete aggressively, then they may earn only normal profits. They may be caught in the
prisoners dilemma of competing aggressively, unless they can find some way to cooperate. If
instead they restrain their competitive thrusts, then they may be able to earn high profits.
The fact that oligopoly firms can earn high profits means that it matters where these firms are
located (or who owns them). The high profit earned on export sales creates another source of
national gains from trade for the exporting country, in the form of better terms of trade, at the
expense of foreign buyers of the imports.
Our third theory is based on scale economies that are external to the individual firm but arise
from advantages of having a high level of production in a geographic area. With external scale
economies (also called agglomeration economies), an expansion of demand (such as that caused
by increased exports) can result in a lower unit cost for all producers in the area and a lower
product price. With free trade production tends to be concentrated in one or a few locations. In
the shift from no trade to free trade, production in some locations would increase so that their
unit costs and prices fall, while production in other locations would decrease or cease. It is not
easy to predict which locations become dominant—luck, a large domestic market, or government
policy may be important. The importing countries gain from trade, even if local production
ceases, because consumers benefit from the lower prices of the imported product. A key
difference from the standard model is that with external scale economies consumers in the
exporting country also gain surplus as trade leads to lower costs and prices, because production
is concentrated in few locations that can better achieve the external economies.