Misallocation under Trade Liberalization
American Economic Review · 2024 · Volume 114 · Issue 7
Abstract
This paper formalizes a classic idea that in second-best environments trade can induce welfare losses: incremental income losses from distortions can outweigh trade gains. In a Melitz model with distortionary taxes, we derive sufficient statistics for welfare gains/losses and show departures from the efficient case (Arkolakis, Costinot, and Rodríguez-Clare 2012) can be captured by the gap between an input and output share and domestic extensive margin elasticities. The loss reflects an endogenous selection of more subsidized firms into exporting. Using Chinese manufacturing data in 2005 and model-inferred firm-level distortions, we demonstrate that a sizable negative fiscal externality can potentially offset conventional gains.
Keywords
Firm Behavior: Empirical Analysis, Empirical Studies of Trade, Business Taxes and Subsidies including sales and value-added (VAT), Industry Studies: Manufacturing: General, International Linkages to Development, Role of International Organizations, Socialist Enterprises and Their Transitions, Socialist Institutions and Their Transitions: International Trade, Finance, Investment, Relations, and Aid
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