Paris trade seminar

Classification systems group heterogeneous objects such as products into categories called codes and define what level of policy, such as tariffs, will be applied to each group. I develop a theory of endogenous classification and show that accounting for the motives underlying the design of classification systems has important implications for empirical research. I build a model in which the choice of which things to group together reflects the objectives of a policymaker. A finer classification better targets policy but is harder to design and enforce. The degree to which heterogeneous objects are grouped together will vary across codes within a classification system and may be systematically related to policies and attributes of interest to both the econometrician and the policymaker. Taking the classification of U.S. imports as a leading example, I show that its design is consistent with this theory. Product codes vary greatly in their size and specificity; codes are more subdivided when tariffs are high, and when codes are more subdivided goods within them are more similar. Heterogeneity in product attributes within codes leads to large biases when estimating parameters such as demand and supply elasticities. I show that the amount of heterogeneity and therefore the size of this bias is correlated with tariffs as expected under a theory of endogenous classification, and correcting it changes our understanding of important empirical relationships such as the one between tariffs and demand elasticities.

This paper investigates the impact of rising income inequality and consumer heterogeneity on firms’ prices and markups. We develop a model where firms face distinct consumer segments, each with varying reservation prices-the maximum price they are willing to pay-and different demand elasticities. Firms cannot price discriminate across segments. Our model predicts two opposing effects on prices, contingent on whether heterogeneity influences reservation prices or demand elasticities. Greater dispersion in reservation prices leads to lower prices, whereas increased dispersion in demand elasticity results in higher prices. These effects manifest differently across the sales distribution, with heightened consumer heterogeneity resulting in relatively higher markups for large firms compared to smaller ones. We empirically test our model’s predictions using a detailed dataset from NielsenIQ and Compustat for the United States, alongside transaction data from the Customs Trade Statistics for China. Our findings indicate that as income inequality rises, prices and markups decrease for smaller firms but increase for larger firms. We further validate our model through additional tests examining the reservation price and demand elasticity channels.

Co-authors: Ezra Oberfield, Ruairidh South and Mazhar Waseem We study theoretically and empirically how firm-to-firm sales relationships shape firm dynamics and productivity. We first present a parsimonious model of firm dynamics where dynamics arise from the arrival of new potential matches between firms, acting as supply shocks from the perspective of buyers, and as demand shock from the perspective of suppliers. Buyers switch to new suppliers when it is optimal to do so. The model matches the empirical regularities on firm volatility and exit probabilities declining with size, endogenous fat tails in firm growth rates, and some firms with persistently (but not permanently) high growth rates (“gazelles”). We apply the model to a setting in which contracting frictions between firms give rise to long-term relationships. These arrangements improve incentives within the relationship, but firms switch to new suppliers less frequently. This reduces firm dynamism, in the sense that firm sales are less volatile, there is less mean reversion, exit rates are lower, and the right tail of the firm size distribution is thinner. We corroborate these predictions with production data on Indian manufacturing plants and transaction-level data from Pakistan, using variation across regions in court congestion as a proxy for weak formal enforcement and variation across industries in whether the output requires customization. Using a quantitative implementation of our model we show that the dynamic cost of long-term contracts is significant, with the increased court congestion between the state with the fastest courts and the state with the slowest courts reducing aggregate productivity by roughly 15%.

The rules of the World Trade Organization are increasingly being disregarded by its members, raising concerns about the future of multilateral liberalization. In this paper, we develop a dynamic model of the international trading system to analyze the sustainability of rules-based trade regimes. We consider a framework of stochastic asynchronous games, where a leading country determines the trade regime and the identity of this leader changes over time. In a many-country, infinite-horizon game, we show that transitioning from a power-based to a rules-based regime requires the presence of a hegemonic power — i.e., a country significantly larger than all others. We find that the long-term viability of a rules-based regime hinges on the cost of establishing it: the cost must be neither too small nor too large. If the cost is too small, the system follows a cyclic equilibrium; if too large, a power-based regime prevails. Sustainability also depends on policymakers being sufficiently forward-looking. Furthermore, in a bipolar state, free-riding and market-power forces further undermine the feasibility of rules-based equilibria. Our findings highlight the risks posed by the ongoing erosion of multilateral cooperation and its potential long-term consequences for the world trading system

Co-authors: Carsten Eckel and Ning Meng. Products produced by a multiproduct firm can be linked through demand linkages or supply linkages. On the demand side, changes in the price of one product can affect the demand for a firm’s other products through shifts in consumer expenditures. This is commonly referred to as the cannibalization effect. On the supply side, joint inputs can create a dependency of one product’s marginal costs on the output of other products. The existence of these linkages is important for how firms respond to shocks and has major implications for several performance measures, such as productivity and markups. This paper provides first empirical evidence for the existence of cannibalization linkages in presence of supply linkages, which is implied evidence for market power.

In 2018-2019, the US imposed a swathe of Section 301 tariffs that affected around two-thirds of its imports from China. Less well-known is the fact that companies could seek exclusions from these tariffs under an administrative process managed by the Office of the US Trade Representative. Using data on all applications, we document the extent of these exclusions (they were non-trivial), and explore what explains successful requests (importantly, proxies of the applicant’s ability to convey information about the material impact of the tariffs). We assess the welfare implications of this policy design for the Section 301 tariffs, by developing and calibrating a “protection for sale” model in which firms reveal information about their dependence on imports from China as grounds for seeking an exclusion. Quantitatively, the higher tariff rates announced under a policy of “tariffs with exclusions” exacerbate the overall welfare cost to the US substantially compared to a counterfactual policy of “tariffs without exclusions”; this is even though (conditional on given tariff rates) the exclusions improve the targeting of the tariffs across heterogeneous firms within product codes.

Co-authors: Bryan Hardy, Felipe E. Saffie. Large firms borrow in foreign currency and are net providers of trade credit to firms in their supply chains. We model the transmission of exchange rate risk via firm balance sheets along the supply chain. Trade credit loosens borrowing constraints and allows for higher production. Furthermore, firms are more likely to pass-through exchange rate shocks to their balance sheets onto their partners the more they are financially constrained. We validate these predictions using a quarterly firm panel for 19 emerging markets. Trade credit constitutes an important transmission mechanism of exchange rate shocks, but firms tend to protect their trading partners.

Co-authors: Swati Dhingra, Ningyuan Jia, Gianmarco Ottaviano, and Thomas Sampson. This paper studies how relationships governed by long-term contracts enable global supply chains to adjust to demand shocks. We show that, in the LNG industry, contracts are flexible enough to respond more than spot markets to weather-related demand fluctuations. Contract shipment surplus is shared with sellers to compensate them for forgoing spot markets at times of high demand and for exerting relationship-specific effort to deliver at these times. A counterfactual analysis that supplies all shipments to spot markets while holding quantities and final destinations constant suggests that adaptation within contracts contributed significantly to global LNG industry value between 2009 and 2019.