Trade Costs and Economic Development
Indiana Working Paper No. 2011-01
30 Pages Posted: 21 Jan 2011 Last revised: 12 May 2014
Date Written: January 1, 2011
We test the hypothesis of the circular causality between trade costs and degree of economic development using data on Italian provinces. Using different methods to control for multilateral resistance, we apply a gravity equation to estimate sectoral exports to 188 countries over the period 1995-2004. Provincial trade costs are constructed as the sum of five province-specific elasticities, including distance, adjacency, and common money. We find that Italian provinces are heterogeneous with respect to trade costs. These costs are influenced by lagged provincial per capita income and industrial structure. In turn, trade costs influence future provincial per capita income. This two-way relationship between trade costs and income is broadly consistent with the cumulative causation process emphasized by the New Economic Geography.
Keywords: trade costs, heterogeneity, economic development, gravity equation
JEL Classification: F10, F14, O52, R12
Suggested Citation: Suggested Citation