Gravity

A large empirical literature has estimated the effects of international agreements on trade flows, but these estimates may not be very informative for individual policymakers as they are averages of potentially very different impacts across country-pairs. We investigate this issue using quarterly data from 20 advanced economies over the past 55 years. Our empirical implementation adopts a Poisson pseudo-maximum likelihood estimation technique and estimates a reduced-form gravity relationship at the pair-level using new insights from the common factor model literature to capture multilateral resistance and globalisation effects. We find an average effect of entering regional trade agreements of just over 20%. However, we demonstrate that this average hides substantial heterogeneity across countries, with direct consequence for heterogeneity across time periods. This heterogeneity is also prevalent in the common currency effect. Beyond these findings, our empirical approach offers solutions to issues currently discussed in frontier gravity model research.