Working Paper
Aghion, Philippe, Antonin Bergeaud, Matthieu Lequien, and Marc J. Melitz. Working Paper. “The Impact of Exports on Innovation: Theory and Evidence”. Abstract

This paper investigates the effect of export shocks on innovation. On the one hand a positive shock increases market size and therefore innovation incentives for all firms. On the other hand it increases competition as more firms enter the export market. This in turn reduces profits and therefore innovation incentives particularly for firms with low productivity. Overall the positive impact of the export shock on innovation is magnified for high productivity firms, whereas it may negatively affect innovation in low productivity firms. We test this prediction with patent, customs and production data covering all French manufacturing firms. To address potential endogeneity issues, we construct firm-level export proxies which respond to aggregate conditions in a firm's export destinations but are exogenous to firm-level decisions. We show that patenting robustly increases more with export demand for initially more productive firms. This effect is reversed for the least productive firms as the negative competition effect dominates.

Mayer, Thierry, Marc J. Melitz, and Gianmarco I.P. Ottaviano. Working Paper. “Product Mix and Firm Productivity Responses to Trade Competition”. Abstract

We document how demand shocks in export markets lead French multi-product exporters to re-allocate the mix of products sold in those destinations. In response to positive demand shocks, 

those French firms skew their export sales towards their best performing products; and also ex- 
tend the range of products sold to that market. We develop a theoretical model of multi-product 
firms and derive the specific demand conditions needed to generate these product-mix reallo- 
cations. These demand conditions are associated with endogenous price elasticities that satisfy 
Marshall’s Second Law of Demand (the price elasticity of demand decreases with consumption). Under 
these demand conditions, our theoretical model highlights how the increased competition from demand 
shocks in export markets – and the induced product mix reallocations – induce productivity changes 
within the firm. We then empirically test for this connection between the demand shocks and the 
productivity of multi-product firms exporting to those destinations. We find that the effect of 
those demand shocks on productivity are substantial – and explain an
important share of aggregate productivity fluctuations for French manufacturing
Melitz, Marc J. 2017. “Competitive effects of trade: theory and measurement.” Review of World Economics. Publisher's Version
Bergstresser, Dan, and Marc Melitz. 2017. “The Jones Act and the Cost of Shipping Between U.S. Ports.” EconoFact. Publisher's Version
Melitz, Marc, and Michael Klein. 2017. “What Do We Learn from Bilateral Trade Deficits?” The Econofact Network. Publisher's Version
Melitz, Marc. 2017. “Driving Home the Importance of NAFTA.” The Econofact Network. Publisher's Version
Melitz, Marc, and Saso Polanec. 2015. “Dynamic Olley-Pakes Productivity Decomposition with Entry and Exit.” RAND Journal of Economics 46 (2): 362-375. Publisher's Version Abstract

In this paper, we propose an extension of the productivity decomposition method developed by Olley & Pakes (1996). This extension provides an accounting for the contributions of both firm entry and exit to aggregate productivity changes. It breaks down the contribution of surviving firms into a component accounting for changes in the firm-level distribution of productivity and another accounting for market share reallocations among those firms following the same methodology as the one proposed by Olley & Pakes (1996). We argue that the other decompositions that break-down aggregate productivity changes into these same four components introduce some biases in the measurement of the contributions of entry and exit. We apply our proposed decomposition to the large measured increases of productivity in Slovenian manufacturing during the 1995-2000 period and contrast our results with those of other decompositions. We find that, over a 5-year period, the measurement bias associated with entry and exit is substantial, accounting for up to 10 percentage points of aggregate productivity growth. We also find that market share reallocations among surviving firms played a much more important role in driving aggregate productivity changes.
Keywords: Productivity Decomposition, Industry Productivity
JEL Classication Numbers: C10, O47

Melitz, Marc, and Stephen Redding. 2015. “New Trade Models, New Welfare Implications.” American Economic Review 105 (3): 1105-46. American Economic Review Abstract

We show that endogenous firm selection provides a new welfare margin for heterogeneous firm models of trade (relative to homogeneous firm models). Under some parameter restrictions, the trade elasticity is constant and is a sufficient statistic for welfare, along with the domestic trade share. However, even small deviations from these restrictions imply that trade elasticities are variable and differ across markets and levels of trade costs. In this more general setting, the domestic trade share and endogenous trade elasticity are no longer sufficient statistics for welfare. Additional empirically observable moments of the micro structure also matter for welfare.
KEYWORDS: firm heterogeneity, welfare gains from trade, trade policy evaluation

PDF Appendix
Melitz, Marc J, and Stephen J Redding. 2014. “Missing Gains from Trade?” American Economic Review 104 (5): 317-21. Publisher's Version Abstract

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. JEL CLASSIFICATION: F10, F11, F15 KEYWORDS: Productivity, Sequential production, Welfare gains from trade

Melitz, Marc, Thierry Mayer, and Gianmarco IP Ottaviano. 2014. “Market Size, Competition, and the Product Mix of Exporters.” American Economic Review 104 (2): 495-536. Abstract

We build a theoretical model of multi-product firms that highlights how competition across market destinations affects both a firm's exported product range and product mix. We show how tougher competition in an export market induces a firm to skew its export sales towards its best performing products. We find very strong confirmation of this competitive effect for French exporters across export market destinations. Theoretically, this within firm change in product mix driven by the trading environment has important repercussions on firm productivity. A calibrated fit to our theoretical model reveals that these productivity effects are potentially quite large.

Melitz, Marc J, and Stephen J Redding. 2014. “Heterogeneous Firms and Trade.” Handbook of International Economics, 4th ed, 4: 1-54. Elsevier. Publisher's Version Abstract

This paper reviews the new approach to international trade based on firm heterogeneity in differentiated product markets. This approach explains a variety of features exhibited in disaggregated trade data, including the higher productivity of exporters relative to non-exporters, within-industry reallocations of resources following trade liberalization, and patterns of trade participation across firms and destination markets. Accounting for these empirical patterns reveals new mechanisms through which the aggregate economy is affected by trade liberalization, including endogenous increases in average industry and firm productivity.

PDF Appendix.pdf
Melitz, Marc, and Ariel Burstein. 2013. “Trade Liberalization and Firm Dynamics.” Advances in Economics and Econometrics Tenth World Congress. Applied Economics, Econometric Society Monographs. Vol. 2. Cambridge, UK: Cambridge University Press. Abstract
In this paper, we analyze the transition dynamics associated with an economy's response to trade liberalization. We start by reviewing the recent literature that incorporates firm dynamics into models of international trade. We then build upon that literature to characterize the role of firm dynamics, export-market selection, firm-level innovation, sunk export costs, and firms' expectations regarding the time path of liberalization in generating those transition dynamics following trade liberalization. These modeling ingredients generate substantial aggregate transition dynamics as they shift and shape the endogenous distribution of firms over time. Our results show how the responses of trade volumes, innovation, and aggregate output can vary greatly over time depending on those modeling ingredients. This has important consequences for many issues in international economics that rely on predictions for the effects of globalization over time on those key aggregate outcomes.
Melitz, Marc, and Daniel Trefler. 2012. “Gains from Trade when Firms Matter.” Journal of Economic Perspectives 26 (2). Abstract

The rising prominence of intra-industry trade and huge multinationals has transformed the way economists think about the gains from trade. In the past, we focused on gains that stemmed either from endowment differences (wheat for iron ore) or inter-industry comparative advantage (David Ricardo's classic example of cloth for port). Today, we focus on three sources of gains from trade: 1) love-of-variety gains associated with intra-industry trade; 2) allocative efficiency gains associated with shifting labor and capital out of small, less-productive firms and into large, more-productive firms; and 3) productive efficiency gains associated with trade-induced innovation. This paper reviews these three sources of gains from trade both theoretically and empirically. Our empirical evidence will be centered on the experience of Canada following its closer economic integration in 1989 with the United States—the largest example of bilateral intra-industry trade in the world—but we will also describe evidence for other countries.

Melitz, Marc, and Alejandro Cuñat. 2012. “Volatility, Labor Market Flexibility, and the Pattern of Comparative Advantage.” Journal of the European Economic Association 10: 225-254. Wiley Online Library
Melitz, Marc, Florin O Bilbiie, and Fabio Ghironi. 2012. “Endogenous Entry, Product Variety, and Business Cycles.” Journal of Political Economy 120 (2): 304-345.
Melitz, Marc, and Alejandro Cuñat. 2010. “A Many-Country, Many-Good Model of Labor Market Rigidities as a Source of Comparative Advantage.” Journal of the European Economic Association P&P 8: 434–441. Abstract

We extend the theoretical framework in Cuñat and Melitz (2007) to a many-country setup where
countries exhibit different degrees of labor market flexibility. We rely on the insights from a
recent paper by Costinot (2009) to obtain precise predictions about comparative advantage in
this setting: countries with more flexible labor markets specialize in more volatile industries.

Melitz, Marc. 2008. “International Trade and Heterogeneous Firms.” New Palgrave Dictionary of Economics, 2nd Edition. Palgrave Macmillan. Abstract

Empirical studies of production units within sectors have reported a massive amount of
heterogeneity in various performance measures (most notably, size and productivity). This
heterogeneity, within sectors, matters for theoretical and empirical models of trade. Trade,
or trade liberalization more generally, induces important reallocations between heterogeneous
producers in a sector: the smallest or least productive producers are forced to exit, and market
shares are further reallocated between less productive producers (who do not export) towards
larger, more productive exporters. These reallocations generate a new channel for productivity
and welfare gains from trade.

Melitz, Marc, Elhanan Helpman, and Yona Rubinstein. 2008. “Estimating Trade Flows: Trading Partners and Trading Volumes.” Quarterly Journal of Economics 123: 441-487. Abstract

We develop a simple model of international trade with heterogeneous firms that is consistent with a number of stylized features of the data. In particular, the model predicts positive as well as zero trade flows across pairs of countries, and it allows the number of exporting firms to vary across destination countries. As a result, the impact of trade frictions on trade flows can be decomposed into the intensive and extensive margins, where the former refers to the trade volume per exporter and the latter refers to the number of exporters. This model yields a generalized gravity equation that accounts for the self-selection of firms into export markets and their impact on trade volumes. We then develop a two-stage estimation procedure that uses an equation for selection into trade partners in the first stage and a trade flow equation in the second. We implement this procedure parametrically, semiparametrically, and nonparametrically, showing that in all three cases the estimated effects of trade frictions are similar. Importantly, our method provides estimates of the intensive and extensive margins of trade. We show that traditional estimates are biased and that most of the bias is due not to selection but rather due to the omission of the extensive margin. Moreover, the effect of the number of exporting firms varies across country pairs according to their characteristics. This variation is large and particularly so for trade between developed and less developed countries and between pairs of less developed countries.

Melitz, Marc, and Gianmarco Ottaviano. 2008. “Market Size, Trade, and Productivity.” Review of Economic Studies 75: 295-316. Abstract

We develop a monopolistically competitive model of trade with firm heterogeneity—in terms of productivity differences—and endogenous differences in the “toughness” of competition across markets—in terms of the number and average productivity of competing firms. We analyse how these features vary across markets of different size that are not perfectly integrated through trade; we then study the effects of different trade liberalization policies. In our model, market size and trade affect the toughness of competition, which then feeds back into the selection of heterogeneous producers and exporters in that market. Aggregate productivity and average mark-ups thus respond to both the size of a market and the extent of its integration through trade (larger, more integrated markets exhibit higher productivity and lower mark-ups). Our model remains highly tractable, even when extended to a general framework with multiple asymmetric countries integrated to different extents through asymmetric trade costs. We believe this provides a useful modelling framework that is particularly well suited to the analysis of trade and regional integration policy scenarios in an environment with heterogeneous firms and endogenous mark-ups.

Melitz, Marc, and Fabio Ghironi. 2007. “Trade Flow Dynamics with Heterogeneous Firms.” American Economic Review P&P 97: 356-361. Abstract

We use a two-country, stochastic, general equilibrium model of international trade and macro-
economic dynamics with monopolistic competition and heterogeneous …rms to explore the role of
entry in the domestic economy and the extensive margin of international trade in the dynamics
of U.S. trade ‡ows over the business cycle. We show that the model can reproduce the evidence
on the cyclicality of U.S. trade and important features of the evidence on the extensive margins
of domestic entry and international trade. Entry in the domestic economy and the implied
di¤erences in the timing of export and import expansions in response to favorable productivity
shocks provide the key mechanism for the model’s ability to explain this range of stylized facts.

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