MARKET OVERLAP AND THE DIRECTION OF EXPORTS - a new approach of assessing the Linder hypothesis

The Linder hypothesis states that countries will trade more intensively with countries that have similar structures of demand. We suggest an alternative method of assessing the hypothesis, incorporating the distribution of income within a country. The variables that we develop capture the similarity in demand structures between two trading partners and the size of the market for which the market overlap is identified. These variables are included in a one-sided gravity model. Results show that similarity in structure of demand act as a catalyst of trade flows between countries and that similarities are more important for the differentiated goods than homogenous goods.