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Distorted Gravity: The Intensive and Extensive Margins of International Trade

Abstract : By considering a model with identical firms, Krugman (1980) predicts that a higher elasticity of substitution between goods magnifies the impact of trade barriers on trade flows. In this paper, I introduce firm heterogeneity in a simple model of international trade. I prove that the extensive margin and the intensive margin are affected by the elasticity of substitution in exact opposite directions. When the distribution of productivity across firms is Pareto, the predictions of the Krugman model with representative firms are overturned: the impact of trade barriers on trade flows is dampened by the elasticity of substitution, and not magnified.
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Submitted on : Friday, February 18, 2022 - 12:02:14 PM
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Thomas Chaney. Distorted Gravity: The Intensive and Extensive Margins of International Trade. American Economic Review, American Economic Association, 2008, 98 (4), pp.1707 - 1721. ⟨10.1257/aer.98.4.1707⟩. ⟨hal-03579844⟩

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