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Trade, Domestic Frictions, and Scale Effects


  • Natalia Ramondo
  • Andrés Rodríguez-Clare
  • Milagro Saborío-Rodríguez


Because of scale effects, idea-based growth models have the counterfactual implication that larger countries should be much richer than smaller ones. New trade models share this same problematic feature: although small countries gain more from trade than large ones, this is not strong enough to offset the underlying scale effects. In fact, new trade models exhibit other counterfactual implications associated with scale effects – in particular, domestic trade shares and relative income levels increase too steeply with country size. We argue that these implications are largely a result of the standard assumption that countries are fully integrated domestically, as if they were a single dot in space. We depart from this assumption by treating countries as collections of regions that face positive costs to trade amongst themselves. The resulting model is largely consistent with the data. For example, for a small and rich country like Denmark, our calibrated model implies a real per-capita income of 81 percent the United States’s, much closer to the data (94 percent) than the trade model with no domestic frictions (40 percent).

Suggested Citation

  • Natalia Ramondo & Andrés Rodríguez-Clare & Milagro Saborío-Rodríguez, 2012. "Trade, Domestic Frictions, and Scale Effects," NBER Working Papers 18532, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:18532
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    Cited by:

    1. Heid, Benedikt & Larch, Mario & Yotov, Yoto, 2017. "Estimating the Effects of Non-discriminatory Trade Policies within Structural Gravity Models," School of Economics Working Paper Series 2017-10, LeBow College of Business, Drexel University.
    2. Markus Eberhardt & Zheng Wang & Zhihong Yu, 2013. "Intra-National Protectionism in China: Evidence from the Public Disclosure of ‘Illegal’ Drug Advertising," Discussion Papers 2013-04, University of Nottingham, GEP.
    3. Gabriel Felbermayr & Benjamin Jung, 2011. "Home Market Effects and the Single-Sector Melitz Model," CESifo Working Paper Series 3695, CESifo Group Munich.
    4. Krebs, Oliver & Pflüger, Michael P., 2015. "How Deep Is Your Love? A Quantitative Spatial Analysis of the Transatlantic Trade Partnership," IZA Discussion Papers 9021, Institute for the Study of Labor (IZA).
    5. Redding, Stephen J. & Turner, Matthew A., 2015. "Transportation Costs and the Spatial Organization of Economic Activity," Handbook of Regional and Urban Economics, Elsevier.
    6. Eberhardt, Markus & Wang, Zheng & Yu, Zhihong, 2016. "From one to many central plans: Drug advertising inspections and intra-national protectionism in China," Journal of Comparative Economics, Elsevier, vol. 44(3), pages 608-622.
    7. Yuan Zi, 2016. "Trade Liberalization and the Great Labor Reallocation," IHEID Working Papers 18-2016, Economics Section, The Graduate Institute of International Studies.
    8. Costinot, Arnaud & Donaldson, Dave, 2016. "How Large Are the Gains from Economic Integration? Theory and Evidence from U.S. Agriculture, 1880-1997," CEPR Discussion Papers 11712, C.E.P.R. Discussion Papers.
    9. Ramondo, Natalia, 2014. "A quantitative approach to multinational production," Journal of International Economics, Elsevier, vol. 93(1), pages 108-122.
    10. Keller, Wolfgang & Andres Santiago, Javier & Shiue, Carol H., 2017. "China's domestic trade during the Treaty-Port Era," Explorations in Economic History, Elsevier, vol. 63(C), pages 26-43.
    11. repec:bla:etrans:v:25:y:2017:i:3:p:439-469 is not listed on IDEAS
    12. repec:eee:chieco:v:45:y:2017:i:c:p:168-194 is not listed on IDEAS
    13. Yilmazkuday, Hakan, 2017. "Domestic vs. International Welfare Gains from Trade," Globalization and Monetary Policy Institute Working Paper 298, Federal Reserve Bank of Dallas.
    14. Heiwai Tang & Fei Wang & Zhi Wang, 2016. "Extending the Input-Output Table Based on Firm-level Data," CESifo Working Paper Series 5811, CESifo Group Munich.
    15. Ahmad Lashkaripour & Volodymyr Lugovskyy, 2017. "National Differentiation and Industry-Wide Scale Effects," Caepr Working Papers 2017-004 Classification-, Center for Applied Economics and Policy Research, Economics Department, Indiana University Bloomington.

    More about this item

    JEL classification:

    • F0 - International Economics - - General
    • F43 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Economic Growth of Open Economies
    • O0 - Economic Development, Innovation, Technological Change, and Growth - - General
    • O40 - Economic Development, Innovation, Technological Change, and Growth - - Economic Growth and Aggregate Productivity - - - General

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