Changes in trade variety, substitutability, and terms of trade effect: Evidence from south korea

Abstract

This paper quantifies the effects of both import and export varieties on a nation's terms of trade. Using the most disaggregate trade data (HS 10 digit) for South Korea over the period 1992–2015, I find that the growth in import variety caused a drop in the import price index by 2.44% per year and the growth in export variety caused a rise in the export price index by 1.46% per year. I identify that the effects of import and export varieties on the terms of trade are different due to the differences in variety change and substitutability. The conventional terms of trade that do not take into account changes in the varieties of import and export underestimated the true terms of trade by 3.9% per year. This implies that the growth of real income and productivity for the South Korean economy would be underestimated by the conventional terms of trade.