Markets and Networks in International Trade: On the Role of Distances in Globalization

Abstract

The enduring importance of geographic distance as an impediment to international trade has recently become recognized as an empirical fact in need of explanation. According to one line of argument—the ‘network view’—the continuing high sensitivity of international trade to geographical distance is associated with a shift in the composition of trade towards goods requiring more extensive information exchange and personal interaction between buyers and sellers. An alternative explanation—‘the market view’—contends that improved availability of information and increasing transparency of markets have facilitated the matching of geographically more proximate buyers and sellers, and that the observed decline in average transportation distances is a reflection of increasingly efficient markets. This paper examines empirically the merits of these two arguments based on a longitudinal analysis of bilateral trade between 25 major trading nations for the period 1962–2008. It compares the development of the relative importance of ‘psychic distance’—a proxy for information related transaction costs—and geographic distance—a proxy for transportation costs—in three categories of goods. The results are broadly in support of the ‘market-view’, showing that the sensitivity of trade to psychic distance has declined dramatically for all categories of goods. The impact of geographic distance has increased markedly for homogenous goods, whereas for more differentiated goods it has decreased mildly.