I present a new global value chain (GVC) framework in which intermediate input suppliers produce specialized inputs that are only compatible with specific downstream uses. This feature is confirmed by firm-level data and is at odds with the current GVC approach which assumes that all products within a given industry utilize the same inputs. For example, Mexican firm-level data shows that the manufacturing firms that export to the U.S. utilize relatively more U.S. inputs than those that export to other destinations. I show how the new GVC framework can combine bilateral trade data with firm-level data in order to obtain GVC flows that reflect the heterogeneity in the use of inputs observed in the latter. This reveals that 27% of the $118bn of Mexican final good exports to the U.S. is U.S. value-added returning home. In contrast, the current GVC approach yields a share of only 17% since it ignores the specialized inputs channel. This discrepancy has serious implications for the ongoing renegotiation of NAFTA as it suggests that the potential costs of supply chain disruption are being understated. Lastly, I show how to compute these counterfactuals with an extension of the influential sufficient statistics approach to specialized inputs models and highlight important areas for future data collection.

This paper develops a multi-stage general-equilibrium model of global value chains (GVCs) and studies the specialization of countries within GVCs in a world with barriers to international trade. With costly trade, the optimal location of production of a given stage in a GVC is not only a function of the marginal cost at which that stage can be produced in a given country, but is also shaped by the proximity of that location to the precedent and the subsequent desired locations of production. We show that, other things equal, it is optimal to locate relatively downstream stages of production in relatively central locations. We also develop and estimate a tractable, quantifiable version of our model that illustrates how changes in trade costs affect the extent to which various countries participate in domestic, regional or global value chains, and traces the real income consequences of these changes.

This paper studies the welfare implications of trade opening in a world in which trade raises aggregate income but also increases income inequality, and in which redistribution needs to occur via a distortionary income tax-transfer system. We provide tools to characterize and quantify the effects of trade opening on the distribution of disposable income (after redistribution). We propose two adjustments to standard measures of the welfare gains from trade: a ‘welfarist’ correction inspired by the Atkinson (1970) index of inequality, and a ‘costly-redistribution’ correction capturing the efficiency costs associated with the behavioral responses of agents to trade-induced shifts across marginal tax rates. We calibrate our model to the United States over the period 1979-2007 using data on the distribution of adjusted gross income in public samples of IRS tax returns, as well as CBO information on the tax liabilities and transfers received by agents at different percentiles of the U.S. income distribution. Our quantitative results suggest that both corrections are nonnegligible: trade-induced increases in inequality of disposable income erode about 20% of the gains from trade, while the gains from trade would be about 15% larger if redistribution was carried out via non-distortionary means.