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Gravity with zeros: estimating trade potential of CIS countries

  • Oleksandr Shepotylo

    ()

    (Kyiv School of Economics and Kyiv Economics Institute)

Arguably, the Commonwealth of Independent States (CIS) countries are not as integrated into the world markets as the EU countries or Southeast Asian countries. Trade flows of the CIS countries are not well diversified in terms of either trading partners or composition of exports. In order to compare the degree of export diversification of the CIS countries relative to other countries, we employ the gravity model that proved to be very successful in explaining geographical patterns of trade across countries. The gravity equation is estimated ‘out-of-sample’, meaning that we do not include data on trade flows of the CIS countries in the sample while calculating parameters of the gravity equation. Egger (2002) argued forcefully that the ‘in-sample’ estimation of the trade potential based on the deviation of residuals from the linear prediction is incorrect because large deviations of residuals in the gravity equation based on the in-sample method is not evidence of large deviations of trade from its potential, but rather an indicator of the model misspecification. In addition, we explicitly deal with the problems of zero trade flows and firm’s heterogeneity that become more severe at higher levels of disaggregation such as at the level of sectors of the economy.

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Paper provided by Kyiv School of Economics in its series Discussion Papers with number 16.

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Date of creation: Mar 2009
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Handle: RePEc:kse:dpaper:16
Note: Under review in Journal of International Economics
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  1. Babetskaia-Kukharchuk, Oxana & Maurel, Mathilde, 2004. "Russia's accession to the WTO: the potential for trade increase," Journal of Comparative Economics, Elsevier, vol. 32(4), pages 680-699, December.
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  8. Hausman, Jerry A & Taylor, William E, 1981. "Panel Data and Unobservable Individual Effects," Econometrica, Econometric Society, vol. 49(6), pages 1377-98, November.
  9. Rutherford, Thomas F. & Tarr, David G., 2008. "Poverty effects of Russia's WTO accession: Modeling "real" households with endogenous productivity effects," Journal of International Economics, Elsevier, vol. 75(1), pages 131-150, May.
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  11. Krugman, Paul R., 1979. "Increasing returns, monopolistic competition, and international trade," Journal of International Economics, Elsevier, vol. 9(4), pages 469-479, November.
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  13. Harrison, Glenn W. & Rutherford, Thomas F. & Tarr, David G., 1996. "Economic implications for Turkey of a customs union with the European Union," Policy Research Working Paper Series 1599, The World Bank.
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  16. Oli Havrylyshyn & Hassan Al-Atrash, 1998. "Opening Up and Geographic Diversification of Trade in Transition Economies," IMF Working Papers 98/22, International Monetary Fund.
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