The Impact of Trade Wars on Firms in Third Countries

Bilateral trade shocks affect firms in third countries by redirecting demand and reallocating competition across markets, creating winners and losers. We propose a tractable trade model with heterogeneous firms to decompose firm-level export responses as a function of destination-specific changes in demand, own-price and cross-price elasticities, and external economies of scale. Using the 2018–2019 US-China trade war as a source of exogenous variation and data on the universe of Italian firms, we show how bilateral trade shocks occurring elsewhere identify these primitives for third countries. On average, the US-China trade war created a 2.5% export gain, albeit with substantial heterogeneity across firms. The external economies of scale channel accounts for three-quarters of changes in export performance.