Market Penetration Costs and Trade Dynamics

Costas Arkolakis

No 548, 2008 Meeting Papers from Society for Economic Dynamics

Abstract: I introduce trade dynamics into a static model of international trade with product differentiation, heterogeneous productivity firms, and increasing marginal market penetration costs. I interpret firms as ideas that materialize into production, where an idea is a way to produce a differentiated good with a given productivity. Adapting a stochastic process similar to Reed, the model endogenously generates a right tail cross-sectional Pareto distribution of firms’ productivities based on two minimal assumptions: continuous entry of ideas at a certain rate and productivities of ideas that evolve according to a geometric Brownian motion. The cross-sectional predictions of the model for the distribution of domestic and exporting sales of firms are in line with firm-level data. In addition, the model delivers new predictions consistent with panel data observations on domestic and exporting firm-level sales. It predicts that many small firms enter and exit the market very frequently and that the growth rate as well as the variance of the growth rate of sales is higher for small firms.

Date: 2008
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Persistent link: https://EconPapers.repec.org/RePEc:red:sed008:548

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