Working Paper: NBER ID: w13933
Authors: Costas Arkolakis; Svetlana Demidova; Peter J. Klenow; Andrés Rodríguez-Clare
Abstract: We explore the implications of models with increasing returns, endogenous variety and firm-level heterogeneity for the quantification of the gains from trade. We first focus on the impact of trade liberalization on imported variety by analyzing the experience of Costa Rica from 1986 to 1992. We find that although liberalization triggered a sizable increase in variety, the resulting welfare gains were small because of strong heterogeneity across imported goods. Upon trade liberalization, the new varieties are imported in small quantities, and hence contribute little to welfare. We then present a model with firm-level increasing returns, differentiated goods, monopolistic competition, endogenous variety and free entry to show that total variety (domestic plus imported) can either increase, decrease or remain constant with trade liberalization. More importantly, the gains from trade do not depend on what happens to total variety. In fact, we find that, conditional on the estimated elasticities of trade with respect to trade costs, models with increasing returns, endogenous variety, free or restricted entry, and firm-level heterogeneity have exactly the same implications for welfare gains from trade liberalization as traditional models.
Keywords: trade liberalization; variety; welfare gains; firm-level heterogeneity
JEL Codes: F10; F12
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Trade liberalization in Costa Rica from 1986 to 1992 (F13) | Increase in imported variety (F10) |
| Increase in imported variety (F10) | Minimal welfare gains (D69) |
| Decrease in tariffs (F19) | Increase in variety (O39) |
| Real wage (J31) | Ratio of imports to total expenditure (F10) |
| Market size (L25) | Elasticity of variety (D11) |