Gravity for Outsourcing: an Application with Input-Output Dataset

This paper examines the impact of gravity on outsourcing. We derive a gravity equation from the classical spatial supply problem in which firms purchase some of their inputs from other firms paying the required transport costs. We also allow for different levels of productivity of the firms and build a gravity equation from entropy maximization. Even if the gravity equations look similar, we show that their underlying structures are different. In general terms, countries are viewed as competing with each other for interaction. The competing destinations gravity model represents a step forward in the recognition of interdependencies in spatial choice. Thus, we include a variable to explain the spatial structure of outsourcing countries in a geographical system. We find much stronger support for the gravity equation derived from the probabilistic input demand function than for the deterministic gravity model. The model shows that outsourcing is carried out mostly because of factor cost differentials and technological differences, but that distance and the gravity of other countries adversely affect trade in intermediate goods and services.