GEP Research Paper 04/10
Intra-Industry Trade with Multinational Firms: Theory, Measurement and Determinants
Hartmut Egger, Peter Egger and David Greenaway
Abstract
A number of recent developments, including the analysis of firm level adjustment to falling trade costs, have contributed to a revival of interest in intra-industry trade. Most empirical work still relies on the standard Grubel-Lloyd measure. This however refers only to international trade, disregarding income flows stimulated by repatriated profits. Given the overwhelming importance of the latter, this is a major shortcoming . We provide a guide to measurement and estimation of the determinants of bilateral intra-industry trade shares from the perspective of new trade theory with multinational firms. We develop an analytically solvable general equilibrium model to investigate investment costs, multinational activities and income flows from repatriated profits. The robustness of our findings are investigated in five simulation analyses. We also discuss and quantify biases of different Grubel-Lloyd indices in an empirical assessment of intra-industry trade shares and identify repatriated profit flows of multinationals as a key determinant of biased measurement. To overcome this, we provide several alternative, bias-corrected versions of the Grubel-Lloyd index. Finally, we demonstrate that the determinants motivated by our theoretical analysis offer important insights into variations in the Grubel-Lloyd index. Our new specification outperforms any other previously estimated model as illustrated in regressions on numerically generated data.
Issued in April 2004.
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