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Structural gravity and fixed effects

Abstract

© 2015 Elsevier B.V. The gravity equation for trade flows is one of the most successful empirical models in economics and has long played a central role in the trade literature (Anderson, 2011). Different approaches to estimate the gravity equation, i.e. reduced-form or more structural, have been proposed. This paper examines the role of adding-up constraints as the key difference between structural gravity with "multilateral resistance" indexes and reduced-form gravity with simple fixed effects by exporter and importer. In particular, estimating gravity equations using the Poisson pseudo-maximum-likelihood estimator (Poisson PML) with fixed effects automatically satisfies these constraints and is consistent with the introduction of "multilateral resistance" indexes as in Anderson and van Wincoop (2003).

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