Trade Costs and Product Scope

Ama Baafra Abeberese, Wellesley College

Abstract:

Productivity increases, driven by within-firm productivity changes and firm exit, are theorized as one of the gains from trade. Recent trade theories highlight a channel through which these within-firm productivity gains may occur – a reduction in trade costs can increase competition and lead firms to reduce their product scope to focus on the products in which they are most efficient. We provide empirical evidence for this prediction in the context of a reduction in intra-national trade costs. We exploit an exogenous change in trade costs induced by the construction of the Golden Quadrilateral, a major highway network in India, to analyze the effect of trade costs on product scope for Indian manufacturing firms. We find that firm product scope falls and firm productivity rises with proximity to the highway. We also find suggestive evidence that the products dropped are those in which the firm is least efficient.