Bilateral export trade and income similarity: Does the Linder hypothesis hold for agricultural and food trade?

Abstract

In this paper we investigate the Linder hypothesis for bilateral export trade in agricultural and food products by utilizing the sectoral gravity equation derived in Hallak (2010). Based on a sample of 152 countries, we study the relationship for 737 agricultural and food products at the 6-digit HS code level, using trade data for 1995-2012. We estimate the gravity equation year by and year and sector by sector, analyzing the estimates of Linder's term for two specifications of the similarity index. We compare a theoretically justified definition of the index with an adjusted definition that takes into account relative prices. We show that similar demand structures determine bilateral export trade. Accounting for relative prices, we find that the Linder term is more pronounced. Our findings show that the similarity effect is strongest for processed products and weakest for bulk products. From those results we come to the conclusion that similar aggregate preferences are a major driver of export trade in final consumption goods.