Market linkages with fragmented production

I use a Ricardian model to analyze the transmission of technology shocks between countries when production processes are fragmented. The analysis emphasizes the role of three factors in determining how the gains from technical progress are shared between the innovating country and the rest of the world: the elasticity of substitution in consumption of final goods, the elasticity of substitution between intermediate and final production stages, and the pattern of production. In contrast to models with trade in final goods only, a high elasticity of substitution in consumption may be associated with losses for the innovating country when there is complete vertical specialization in production. I also examine the transmission of shocks in a three-country world where two countries are linked in a vertical production relationship.