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Comparative Advantage and Biased Gravity

Scott French

No 2017-03, Discussion Papers from School of Economics, The University of New South Wales

Abstract: Gravity estimation based on sector-level trade data is generally misspecified because it ignores the role of product-level comparative advantage in shaping the effects of trade barriers on sector-level trade flows. Using a model that allows for arbitrary patterns of product-level comparative advantage, I show that sector-level trade flows follow a generalized gravity equation that contains an unobservable, bilateral component that is correlated with trade costs and omitted by standard sector-level gravity models. I propose and implement an estimator that uses product-level data to account for patterns of comparative advantage and find the bias in sector-level estimates to be significant. I also find that, when controlling for product-level comparative advantage, estimates are much more robust to distributional assumptions, suggesting that remaining biases due to heteroskedasticity and sample selection are less severe than previously thought.

Keywords: international trade; product-level; misspecification; heteroskedasticity; multi-sector (search for similar items in EconPapers)
JEL-codes: F10 F14 C13 C21 C50 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ecm and nep-int
Date: 2017-01
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