Taste Heterogeneity, Elasticity of Demand and Growth
12:00 - 13:30
The paper formalizes Chamberlin’s idea that monopoly power depends on the heterogeneity of taste of customers. I do so by demonstrating that elasticity of substitution between goods in the Dixit-Stiglitz framework can be represented as a simple linear function of taste heterogeneity measure. The result can enrich interpretation of a broad range of models that use Constant Elasticity of Substitution production function: if predictions of these models depend on the elasticity of substitution, they might depend also on heterogeneity of taste of consumers. For example, Young’s model of endogenous growth predicts that technological growth depends positively on elasticity of substitution between goods. Thus, combined with the result, the model predicts negative dependance of growth on diversity of tastes in population. The reason is that if consumers are very heterogeneous in valuation of the product, an improvement of the quality of a good will bring only a relatively small increase in sales. This disincentivise firms from investment in quality improvements.