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Economic Integation Agreements, Border Effects, and Distance Elasticities in the Gravity Equation

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  • Jeffrey H., Larch, Mario Bergstrand
  • Yoto V. Yotov

Abstract

Using a novel common econometric specification, we examine the measurement of three important effects in international trade that historically have been addressed largely separately: the (partial) effects on trade of economic integration agreements, national borders, and bilateral distance. First, recent studies focusing on precise and unbiased estimates of effects of economic integration agreements (EIAs) on members’ trade may be biased upward owing to inadequate control for exogenous unobservable country-pair-specific technological innovations (decreasing the costs of international relative to intranational trade); we find evidence of this bias using a properly specified gravity equation. Second, our novel methodology yields economically plausible and statistically significant estimates of the declining effect of “national borders” on world trade, now accounting for endogenous EIA formations and unobserved country-pair heterogeneity in initial levels. Third, we confirm recent evidence providing a solution to the “distance-elasticity puzzle,” but show that these estimates of the declining effect of distance on international trade are biased upward by not accounting for endogenous EIA formations and unobserved country-pair heterogeneity. We show that these results are robust to a battery of sensitivity analyses allowing for phase-ins of agreements, lagged terms-of-trade effects, reverse causality, various estimation techniques, disaggregation, inclusion of intranational trade, and accounting for firm-heterogeneity and country-selection bias.

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File URL: http://www.cesifo-group.de/portal/page/portal/DocBase_Content/WP/WP-CESifo_Working_Papers/wp-cesifo-2013/wp-cesifo-2013-12/cesifo1_wp4502.pdf
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Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number 4502.

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Date of creation: 2013
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Handle: RePEc:ces:ceswps:_4502

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Keywords: international trade; economic integration agreements; gravity equations;

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  1. Mayer, Thierry & Paillacar, Rodrigo & Zignago, Soledad, 2008. "TradeProd. The CEPII Trade, Production and Bilateral Protection Database: Explanatory Notes," MPRA Paper 26477, University Library of Munich, Germany.
  2. Jonathan Eaton & Samuel Kortum, 2002. "Technology, Geography, and Trade," Econometrica, Econometric Society, Econometric Society, vol. 70(5), pages 1741-1779, September.
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  4. Thierry Mayer & Soledad Zignago, 2011. "Notes on CEPII’s distances measures: The GeoDist database," Working Papers 2011-25, CEPII research center.
  5. de Sousa, José & Mayer, Thierry & Zignago, Soledad, 2012. "Market access in global and regional trade," Regional Science and Urban Economics, Elsevier, Elsevier, vol. 42(6), pages 1037-1052.
  6. Cipollina, Maria & Salvatici, Luca, 2006. "Reciprocal Trade Agreements in Gravity Models: A Meta-analysis," Working Papers, TRADEAG - Agricultural Trade Agreements 18877, TRADEAG - Agricultural Trade Agreements.
  7. James E. Anderson & Yoto V. Yotov, 2010. "The Changing Incidence of Geography," American Economic Review, American Economic Association, American Economic Association, vol. 100(5), pages 2157-86, December.
  8. James E. Anderson & Yoto V. Yotov, 2011. "Terms of Trade and Global Efficiency Effects of Free Trade Agreements, 1990-2002," NBER Working Papers 17003, National Bureau of Economic Research, Inc.
  9. Felbermayr, Gabriel & Kohler, Wilhelm K., 2006. "Exploring the intensive and extensive margins of world trade," Munich Reprints in Economics, University of Munich, Department of Economics 20610, University of Munich, Department of Economics.
  10. Lionel Fontagné & Thierry Mayer & Soledad Zignago, 2004. "Trade in the Triad: How Easy is the Access to Large Markets?," Working Papers 2004-04, CEPII research center.
  11. Baier, Scott L. & Bergstrand, Jeffrey H., 2007. "Do free trade agreements actually increase members' international trade?," Journal of International Economics, Elsevier, Elsevier, vol. 71(1), pages 72-95, March.
  12. Berthelon, Matias & Freund, Caroline, 2004. "On the conservation of distance in international trade," Policy Research Working Paper Series 3293, The World Bank.
  13. Anderson, James E, 1979. "A Theoretical Foundation for the Gravity Equation," American Economic Review, American Economic Association, American Economic Association, vol. 69(1), pages 106-16, March.
  14. Melitz, Marc J, 2002. "The Impact of Trade on Intra-Industry Reallocations and Aggregate Industry Productivity," CEPR Discussion Papers, C.E.P.R. Discussion Papers 3381, C.E.P.R. Discussion Papers.
  15. I-Hui Cheng & Howard J. Wall, 2004. "Controlling for heterogeneity in gravity models of trade and integration," Working Papers, Federal Reserve Bank of St. Louis 1999-010, Federal Reserve Bank of St. Louis.
  16. Peter Egger & Mario Larch & Kevin E. Staub & Rainer Winkelmann, 2010. "The Trade Effects of Endogenous Preferential Trade Agreements," SOI - Working Papers, Socioeconomic Institute - University of Zurich 1013, Socioeconomic Institute - University of Zurich.
  17. Larch, Mario & Norbäck, Pehr-Johan & Sirries, Steffen & Urban, Dieter, 2013. "Heterogeneous Firms, Globalization and the Distance Puzzle," Working Paper Series, Research Institute of Industrial Economics 957, Research Institute of Industrial Economics.
  18. James E. Anderson & Eric van Wincoop, 2001. "Gravity with Gravitas: A Solution to the Border Puzzle," NBER Working Papers 8079, National Bureau of Economic Research, Inc.
  19. Rubinstein, Yona & Helpman, Elhanan & Melitz, Marc, 2008. "Estimating Trade Flows: Trading Partners and Trading Volumes," Scholarly Articles 3228230, Harvard University Department of Economics.
  20. Thomas Chaney, 2008. "Distorted Gravity: The Intensive and Extensive Margins of International Trade," American Economic Review, American Economic Association, American Economic Association, vol. 98(4), pages 1707-21, September.
  21. Yotov, Yoto V., 2012. "A simple solution to the distance puzzle in international trade," Economics Letters, Elsevier, Elsevier, vol. 117(3), pages 794-798.
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