Working Paper: CEPR ID: DP15374
Authors: Holger Breinlich; Harald Fadinger; Volker Nocke; Nicolas Schutz
Abstract: We demonstrate that the estimation of gravity equations of trade flows suffers froman omitted variable bias when firms are granular and behave oligopolistically. Weshow how to correct for this bias in the estimation of both firm- and industry-levelgravity. Using French and Chinese export data, we find that the oligopoly bias leads toa substantial underestimation of the effects of distance on trade flows. In a calibratedversion of the model, the welfare gains from a trade liberalization are found to be almosttwice as large under oligopoly as under monopolistic competition.
Keywords: gravity equation; oligopoly; trade liberalization; trade elasticity
JEL Codes: F12; F14; L13
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| distance (R12) | trade flows (F10) |
| oligopoly (D43) | distance elasticity of trade flows (F14) |
| oligopoly (D43) | welfare gains from trade liberalization (F10) |
| omitted variable bias (C20) | underestimation of trade elasticity (F14) |