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The Gravity Equation in International Trade: An Explanation

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  • Chaney, Thomas

Abstract

The gravity equation in international trade is one of the most robust empirical finding in economics: bilateral trade between two countries is proportional to size, measured by GDP, and inversely proportional to the geographic distance between them. While the role of size is well understood, the role of distance remains a mystery. I propose the first explanation for the gravity equation in international trade, based on the emergence of a stable network of input-output linkages between firms. Over time, a firm acquires more suppliers and customers, which tend to be further away. I show that if, as observed empirically, (i) the distribution of firm sizes is well approximated by Zipf’s law and (ii) larger firms export over longer distances on average, then aggregate trade is inversely proportional to distance. Data on firm level, sectoral, and aggregate trade support further predictions of the model.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 9613.

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Date of creation: Aug 2013
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Handle: RePEc:cpr:ceprdp:9613

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Keywords: Gravity;

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Cited by:
  1. Nakhoda, Aadil, 2013. "The impact of the exports of BRIC countries plus Turkey on the exports of Pakistan," MPRA Paper 52477, University Library of Munich, Germany.
  2. Keith Head & Thierry Mayer, 2013. "What Separates Us? Sources of Resistance to Globalization," Working Papers 2013-26, CEPII research center.

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