Working Paper: CEPR ID: DP9322
Authors: Keith Head; Thierry Mayer
Abstract: This chapter focuses on the estimation and interpretation of gravity equations for bilateral trade. This necessarily involves a careful consideration of the theoretical underpinnings since it has become clear that naive approaches to estimation lead to biased and frequently misinterpreted results. There are now several theory-consistent estimation methods and we argue against sole reliance on any one method and instead advocate a toolkit approach. One estimator may be preferred for certain types of data or research questions but more often the methods should be used in concert to establish robustness. In recent years, estimation has become just a first step before a deeper analysis of the implications of the results, notably in terms of welfare. We try to facilitatediffusion of best-practice methods by illustrating their application in a step-by-step cookbook mode of exposition.
Keywords: bilateral; gravity; trade
JEL Codes: F1
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| gravity equations (D50) | bilateral trade flows (F10) |
| economic size (GDP) (E20) | bilateral trade flows (F10) |
| distance (R12) | bilateral trade flows (F10) |
| naive estimation methods (C51) | biased results (J15) |
| theory-consistent methods (C92) | accurate causal inference (C32) |
| trade policy changes (F13) | welfare outcomes (I38) |
| gravity model estimates (R15) | implied welfare changes (D69) |