Previous empirical examinations of the Grossman-Helpman (1994) model raise a puzzle. They find that the weight that the government places on a dollar of welfare loss greatly outweighs a dollar of money contributions. That is, the government is really a welfare maximizer. But this view is at odds with the observed level of protection and the billions of dollars of welfare losses from trade protection. The objective of this paper is to re-examine the Grossman-Helpman prediction, but after theoretically extending the model to take proper account of the use of intermediate goods in production. Intuitively, bringing intermediate goods into the model increases the chances of resolving the puzzle. Rather than use an ad hoc method to resolve the puzzle, our objective is to give logically well thought out resolutions a chance.
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