The Tip of the Iceberg: Modeling Trade Costs and Implications for Intra-Industry Reallocation

54 Pages Posted: 10 Feb 2010

See all articles by Alfonso A. Irarrazabal

Alfonso A. Irarrazabal

New York University (NYU) - Department of Economics

Andreas Moxnes

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

Luca David Opromolla

Bank of Portugal; CEPR; UECE - Research Unit on Complexity in Economics

Date Written: February 2010

Abstract

When trade costs are of the iceberg type (Samuelson 1952) and markups are independent of trade costs, relative prices across markets are distorted, but relative prices within markets are not. When trade costs depart from the analytically convenient iceberg type, distortion will also occur within markets. In this paper we build a heterogeneous firm model of trade that allows for both iceberg and per-unit costs. An important theoretical finding is that these within-market distortions create an additional channel of gains from trade through within-industry reallocation. We fit the model to firm-level export data, by product and destination, using a novel minimum distance estimator and find that average per-unit costs, expressed relative to the consumer price, are 35-45%, depending on the elasticity of substitution. The pure iceberg model is therefore rejected. Finally, we calibrate the model and quantify the costs of protectionism. Simulations indicate that the welfare costs are roughly 50% higher when tariffs are per-unit compared to when they are iceberg.

Keywords: exports, intra-industry reallocation, trade costs, trade liberalization

JEL Classification: F10

Suggested Citation

Irarrazabal, Alfonso A. and Moxnes, Andreas and Opromolla, Luca David, The Tip of the Iceberg: Modeling Trade Costs and Implications for Intra-Industry Reallocation (February 2010). CEPR Discussion Paper No. DP7685, Available at SSRN: https://ssrn.com/abstract=1550597

Alfonso A. Irarrazabal (Contact Author)

New York University (NYU) - Department of Economics ( email )

269 Mercer Street, 7th Floor
New York, NY 10011
United States

Andreas Moxnes

University of Oslo - Department of Economics ( email )

P.O. Box 1095 Blindern
N-0317 Oslo
Norway

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

National Bureau of Economic Research (NBER) ( email )

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Cambridge, MA 02138
United States

Luca David Opromolla

Bank of Portugal ( email )

Rua Francisco Ribeiro 2
Lisbon, 1150-165
Portugal

CEPR ( email )

London
United Kingdom

UECE - Research Unit on Complexity in Economics ( email )

ISEG/UTL Rua Miguel Lupi 20
Lisboa, 1249-078
Portugal

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