Firm Heterogeneity and Aggregate Welfare

36 Pages Posted: 3 Apr 2013

See all articles by Marc J. Melitz

Marc J. Melitz

Harvard University - Department of Economics; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

Stephen J. Redding

Princeton University

Multiple version iconThere are 2 versions of this paper

Date Written: March 2013

Abstract

We examine how firm heterogeneity influences aggregate welfare through endogenous firm selection. We consider a homogeneous firm model that is a special case of a heterogeneous firm model with a degenerate productivity distribution. Keeping all structural parameters besides the productivity distribution the same, we show that the two models have diff erent aggregate welfare implications, with larger welfare gains from reductions in trade costs in the heterogeneous firm model. Calibrating parameters to key U.S. aggregate and firm statistics, we find these differences in aggregate welfare to be quantitatively important (up to a few percentage points of GDP). Under the assumption of a Pareto productivity distribution, the two models can be calibrated to the same observed trade share, trade elasticity with respect to variable trade costs, and hence welfare gains from trade (as shown by Arkolakis, Costinot and Rodriguez-Clare, 2012); but this requires assuming different elasticities of substitution between varieties and different fixed and variable trade costs across the two models.

Keywords: firm heterogeneity, welfare gains from trade

JEL Classification: F12, F15

Suggested Citation

Melitz, Marc J. and Redding, Stephen J., Firm Heterogeneity and Aggregate Welfare (March 2013). CEPR Discussion Paper No. DP9405. Available at SSRN: https://ssrn.com/abstract=2244085

Marc J. Melitz (Contact Author)

Harvard University - Department of Economics ( email )

Littauer Center
Cambridge, MA 02138
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617-495-8297 (Phone)
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Centre for Economic Policy Research (CEPR)

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United Kingdom

National Bureau of Economic Research (NBER)

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Cambridge, MA 02138
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Stephen J. Redding

Princeton University ( email )

Princeton, NJ 08544-1021
United States

HOME PAGE: http://www.princeton.edu/~reddings/

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