Gravity equations have been widely used to infer trade ow effects of various institutional arrangements. We show that estimated gravity equations do not have a theoretical foundation. This implies both that estimation suffers from omitted variables bias and that comparative statics analysis is unfounded. We develop a method that (i) consistently and ef ciently estimates a theoretical gravity equation and (ii) correctly calculates the comparative statics of trade frictions. We apply the method to solve the famous McCallum border puzzle. Applying our method, we nd that national borders reduce trade between industrialized countries by moderate amounts of 20–50 percent.

This paper surveys trade costs — what we know, and what we don’t know but may usefully attempt to find out. Partial and incomplete data on direct measures of costs go together with inference on implicit costs from the pattern of trade across countries. Representative margins for full trade costs in rich countries exceed 170% based on our pushing the data very hard. Poor countries face even higher trade costs. There is a lot of variation across countries and across goods within countries, much of which makes economic sense. Theory looms large in our survey, providing interpretation and perspective on the one hand and suggesting improvements for the future on the other hand. Some new results are presented to apply and interpret gravity theory properly and to handle aggregation appropriately.

ABSTRACT __________________________________________________________________________ This paper evaluates the performances of three of the most prominent multisectoral static applied general equilibrium models used to predict the impact of the North American Free Trade Agreement. These models drastically underestimated the impact of NAFTA on North American trade. Furthermore, the models failed to capture much of the relative impacts on different sectors. Ex-post performance evaluations of applied GE models are essential if policymakers are to have confidence in the results produced by these models. Such evaluations also help make applied GE analysis a scientific discipline in which there are well-defined puzzles with clear successes and failures for competing theories. Analyzing sectoral trade data indicates the need for a new theoretical mechanism that generates large increases in trade in product categories with little or no previous trade. To capture changes in macroeconomic aggregates, the models need to be able to capture changes in productivity.

In models of international trade, the elasticity of substitution between foreign and domestic goods—the Armington elasticity—determines the behavior of trade flows and international prices. International real business cycle models need low elasticities, in the range of 1 to 2, to match the quarterly fluctuations in trade balances and the terms of trade, but static applied general equilibrium models need high elasticities, between 10 and 15, to account for the growth in trade following trade liberalization. To reconcile these contradictory findings, we construct a model in which cyclical fluctuations are caused by temporary shocks, as in business cycle models, but tariff changes are permanent. In the model, firms do not change export status in response to temporary shocks, while tariff decreases induce some non-exporters to export. In a calibrated model, the entry of new exporters increases the measured elasticity with respect to a tariff change to 6.4, while the elasticity in response to temporary shocks is 1.2.

Data for OECD countries document: 1. imports and exports are about three times as volatile as GDP; 2. imports and exports are pro-cyclical, and positively correlated with each other; 3. net exports are counter-cyclical. Standard models fail to replicate the behavior of imports and exports, though they can match net exports relatively well. Inspired by the fact that a large fraction of international trade is in durable goods, we propose a two-country two-sector model, in which durable goods are traded across countries. Our model can match the business cycle statistics on the volatility and comovement of the imports and exports relatively well. The model is able to match many dimensions of the data, which suggests that trade in durable goods may be an important element in open-economy macro models.

Comments are Welcome. We study the collapse of international trade flows during the global financial crisis using detailed data on monthly US imports during this period. We show that adverse credit conditions were an important channel through which the crisis affected trade volumes. We identify the effects of credit tightening by exploiting the variation in the cost of capital across countries and over time, as well as the variation in financial dependence across sectors. We find that countries with higher interbank rates and thus tighter credit markets export less to the US. These effects are especially pronounced in sectors that require extensive external financing, have few collateralizable assets, and can access limited trade credit. Exports of financially vulnerable industries are thus more sensitive to the cost of external capital than exports of less dependent industries, and this sensitivity rose during the financial crisis. Our estimates imply that the crisis would have reduced trade flows by 26 % more if governments had not acted to lower lending rates, and by 30 % less if policy interventions had had a more immediate effect on the cost of capital. These results provide new evidence on the effect of credit conditions on trade, while highlighting the large real effects of financial crises and the potential gains from policy

The standard gravity model predicts that trade flows increase in proportion to importer and exporter total income, regardless of how income is divided into income per capita and population. Bilateral trade data, however, show that trade grows strongly with income per capita and is largely unresponsive to population. I develop a general equilibrium, Ricardian model of trade that allows the elasticity of trade with respect to income per capita and with respect to population to diverge. Goods fall into various types, which differ in their income elasticity of demand and their extent of heterogeneity in production technologies. I estimate the model using bilateral trade data of 162 countries and compare it to a special case that delivers the gravity equation. The general model improves the restricted model’s predictions regarding variations in trade due to size and income. I experiment with counterfactuals. A positive technology shock in China makes poor and rich countries better off, and middle income countries worse off.

This paper develops an open economy model with heterogeneous final goods producers who simultaneously choose whether to export their goods and whether to use imported intermedi-ates. The model highlights mechanisms whereby import policies affect aggregate productivity, resource allocation, and industry export activity along both the extensive and intensive mar-gins. Using the theoretical model, we develop and estimate a structural empirical model that incorporates heterogeneity in productivity and shipping costs using Chilean plant-level data for a set of manufacturing industries. The estimated model is consistent with the key features of the data regarding productivity, exporting, and importing. We perform a variety of counterfactual experiments to assess quantitatively the positive and normative effects of barriers to trade in import and export markets. These experiments suggest that there are substantial aggregate productivity and welfare gains due to trade. Furthermore, because of import and export com-plementarities, policies which inhibit the importation of foreign intermediates can have a large

The equilibrium relationship between trade and the spatial distribution of economic activity is fundamental to the analysis of national and regional trade patterns, as well as to the effect of trade frictions. We study this relationship using a trade model with a continuum of regions, transport costs, and agglomeration effects caused by production externalities. We analyze the equilibrium specialization and trade pat-terns for different levels of transport costs and externality parameters. Understand-ing trade via the distribution of economic activity in space naturally rationalizes the evidence on border effects and the “gravity equation. ” (JEL F1, R0, R3) Trade is spatial by nature. The distribution of economic activity in space determines the pat-tern of trade across and within countries. Con-versely, trade allows firms in a region to specialize in the production of a small number of goods, while consumers and firms demand a much larger basket of products. Casual obser-

The statistical analysis of firm-level data on U.S. multinational corporations reported in this study was conducted at the International Investment Division, Bureau of Economic Analysis, U.S. Department of Commerce, under arrangements that maintained legal confidentiality requirements. Views expressed are those of the authors and do not necessarily reflect those of the Department of Commerce. Suggestions and assistance from William Zeile and It is well known that trade has been growing more rapidly than GDP in recent decades. Between 1982 and 1994, the growth of U.S. foreign trade (exports plus imports) averaged more than 5 % per year in real terms, while real GDP grew 3 % per year. According to Rugman (1988), over half of world trade involves large multinational corporations (MNCs). MNC-based trade