Domestic vs. International Welfare Gains from Trade

Using varieties of a rich model that considers sectoral heterogeneity and input-output linkages, this paper shows that the overall welfare gains of a region within a country can be decomposed into domestic versus international welfare gains from trade. Empirical results based on state-level data from the U.S. suggest that about 91 percent of the overall welfare gains of a state are due to domestic trade with other states, on average across alternative model specifications, with a range between 72 percent and 99 percent across states. When national-level data are used for the U.S., international welfare gains are shown to be almost identical to the those obtained by the aggregation of state-level results, suggesting that one can use the implications of a region-level analysis to have national-level results based on welfare gains from trade. We use this implication to propose an approximation to measure the domestic welfare gains from trade when domestic trade data are not available. Accordingly, using the implications of the model introduced, a Dispersion of Economic Activity Index (DEAI) is introduced that depends on internal distance and elasticity measures. It is empirically shown that DEAI can capture domestic welfare gains from trade within the U.S. when standard internal distance and elasticity measures in the literature are employed. Important policy suggestions follow.