April 2013
Abstract
We propose a new theory of the extensive margin of trade based on a standard random-utility, discrete choice model for import demand. Crucially, there are only a finite number of independent purchase decisions each period. Whereas traditional demand systems predict market shares, our model yields instead the probability that a purchase for a given good is supplied by any given country. The model has a rich set of predictions regarding the extensive margin across goods, countries, and time. The underlying probabilistic struc- ture naturally reconciles two commanding observations in the data: there is a large fraction of varieties that are not traded yet the entry and exit rates of commodities are very high. We purse an exhaustive evaluation of the model’s quantitative performance with data on U.S. imports at the HS10 product level over the period 1990-2001. The model reproduces faithfully the cross-section distribution of varieties traded per product along several dimensions. Regard- ing dynamic facts, the model is spot on its predictions on the net change, gross entry and exit of commodities, both by count and weighted by value; as well as survival probabilities and hazard rates. We briefly explore the model’s implications for price changes, using NAFTA as a case study, and welfare gains from new varieties.
Work in progress.