The measurement of market integration

It has been argued in previous chapters that given the high costs of transport, the slow flow of information and the risky nature of local harvest carry-over, harvest fluctuations necessarily had a large impact on supply and prices. But changes in transport and information technology increased opportunities for trade and arbitrage and stimulated integration of markets. In this chapter the extent of market integration through time and its impact on price stability will be documented and analysed. However, to assess the extent of market integration we need a standard. The basic idea applied here is that market integration is related to the homogeneity of information in different markets and the opportunities for arbitrage and trade – that is, for exploiting the gains from moving goods from where prices were low to where prices were high. If all participants shared the same information and transport costs were negligible or stable, price levels would be expected to converge to some equilibrium ratio, of which ‘the law of one price’ must be considered the ultimate one, indicating that price in different locations is equal. However, the law of one price seldom applies literally because transport costs are positive. Markets can be perfectly well integrated when price differentials reflect the transport cost between them.