Public goods in trade: On the formation of markets and jurisdictions

Must the integration of markets be accompanied by the harmonization of societies' institutions? We study a model of heterogenous individuals where a public good directly affects returns from trade. Trade takes place in the market, whereas the public good is provided by the jurisdiction, and individuals choose which market and which jurisdiction to join. Although trade between different jurisdictions entails transaction costs, only at intermediate market sizes must trading partners belong to a single jurisdiction. When markets are small, multiple jurisdictions can exist, although a single one is preferable; when markets are large, multiple jurisdictions are both possible and desirable.