International Trade: Linking Micro and Macro

59 Pages Posted: 24 Feb 2012 Last revised: 27 Oct 2014

See all articles by Jonathan Eaton

Jonathan Eaton

Pennsylvania State University, College of the Liberal Arts - Department of Economic

Samuel S. Kortum

University of Chicago - Department of Economics; National Bureau of Economic Research (NBER)

Sebastian Sotelo

University of Michigan at Ann Arbor - Department of Economics

Date Written: February 2012

Abstract

A recent literature has introduced heterogeneous firms into models of international trade. This literature has adopted the convention of treating individual firms as points on a continuum. While the continuum offers many advantages this convenience comes at some cost: (1) Shocks to individual firms can never have an aggregate effect. (2) It is hard to reconcile the small (sometimes zero) number of firms engaged in selling from one country to another with a continuum. (3) For such models to deliver finite solutions for aggregates, such as the price index, requires restrictions on parameter values that may not hold in the data. We show how a standard heterogeneous-firm trade model can be amended to allow for only an integer number of firms. The model overcomes the deficiencies of the continuum model enumerated above. Taking the model to aggregate data on bilateral trade in manufactures among 92 countries and to firm-level export data for a much narrower sample shows that it accounts for both the large share of a small number of firms in sales around the world and for zeros in bilateral trade data while maintaining the good fit of the standard gravity equation among country pairs with thick trade volumes. Randomness at the firm level adds substantially to aggregate variability.

Suggested Citation

Eaton, Jonathan and Kortum, Samuel S. and Sotelo, Sebastian, International Trade: Linking Micro and Macro (February 2012). NBER Working Paper No. w17864, Available at SSRN: https://ssrn.com/abstract=2010396

Jonathan Eaton (Contact Author)

Pennsylvania State University, College of the Liberal Arts - Department of Economic ( email )

608 Kern Graduate Building
University Park, PA 16802-3306
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Samuel S. Kortum

University of Chicago - Department of Economics ( email )

1126 East 59th Street
Chicago, IL 60637
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National Bureau of Economic Research (NBER)

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Cambridge, MA 02138
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Sebastian Sotelo

University of Michigan at Ann Arbor - Department of Economics ( email )

Ann Arbor, MI
United States

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