International Trade and Monopolistic Competition Without CES: Estimating Translog Gravity

39 Pages Posted: 17 Apr 2010

See all articles by Dennis Novy

Dennis Novy

University of Warwick - Department of Economics; Centre for Economic Policy Research (CEPR); Centre for Economic Performance (CEP); CESifo (Center for Economic Studies and Ifo Institute)

Date Written: December 1, 2010

Abstract

This paper derives a micro-founded gravity equation in general equilibrium based on a translog demand system that allows for endogenous markups and rich substitution patterns across goods. In contrast to standard CES-based gravity equations, trade is more sensitive to trade costs if the exporting country only provides a small share of the destination country’s imports. As a result, trade costs have a heterogeneous impact across country pairs, with some trade flows predicted to be zero. I test the translog gravity equation and find strong empirical support in its favor. In an application to the currency union effect, I find that a currency union is only associated with substantially higher bilateral trade if the exporting country provides a small share of the destination country’s imports. For other pairs, the currency union effect is modest or indistinguishable from zero.

Keywords: translog, trade costs, gravity, currency union, monopolistic competition, trade cost elasticity, heterogeneity, zero trade

JEL Classification: F11, F12, F15

Suggested Citation

Novy, Dennis, International Trade and Monopolistic Competition Without CES: Estimating Translog Gravity (December 1, 2010). CESifo Working Paper Series No. 3008, Available at SSRN: https://ssrn.com/abstract=1590129

Dennis Novy (Contact Author)

University of Warwick - Department of Economics ( email )

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HOME PAGE: http://www2.warwick.ac.uk/fac/soc/economics/staff/faculty/novy/

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