Missing Gains from Trade?
The theoretical result that there are welfare gains from trade is a central tenet of international economics. In a class of trade models that satisfy a "gravity equation," the welfare gains from trade can be computed using only the open economy domestic trade share and the elasticity of trade with respect to variable trade costs. The measured welfare gains from trade from this quantitative approach are typically relatively modest. In this paper, we suggest a channel for welfare gains that this quantitative approach typically abstracts from: trade-induced changes in domestic productivity. Using a model of sequential production, in which trade induces a reorganization of production that raises domestic productivity, we show that the welfare gains from trade can become arbitrarily large.
Melitz and Redding thank Harvard and Princeton Universities respectively for research support. We are grateful to Jon Eaton, Gene Grossman, Gordon Hanson, Elhanan Helpman and Andres Rodriguez-Clare for helpful comments. The usual disclaimer applies. The views expressed herein are those of the authors and do not necessarily reflect the views of the National Bureau of Economic Research.
Marc J. Melitz & Stephen J. Redding, 2014. "Missing Gains from Trade?," American Economic Review, American Economic Association, vol. 104(5), pages 317-21, May. citation courtesy of