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GTAP Resource #4402

"Modern trade theory for CGE modelling: the Armington, Krugman and Melitz models "
by Dixon, Peter, Michael Jerie and Maureen Rimmer

The Armington specification of international trade, based on product differentiation at the country level, has been at the heart of computable general equilibrium (CGE) modeling for 40 years. Starting in the 1980s with the work of Krugman and more recently Melitz, trade theorists have preferred specifications in which product differentiation is assumed at the firm level. We draw out the connections between the Armington, Krugman and Melitz models by deriving them as successively less restrictive special cases of an encompassing model.

We then investigate the optimality properties of the Melitz model, demonstrating that a Melitz general equilibrium is the solution to a global, cost-minimizing problem. This raises the possibility that envelope theorems can be used in interpreting results from a Melitz model.

Next we explain the Balistreri-Rutherford decomposition in which a Melitz general equilibrium model is broken into a set of Melitz sectoral models combined with an Armington general equilibrium model. Balistreri and Rutherford see their decomposition as a basis of an iterative approach for solving Melitz general equilibrium models. We see their decomposition as a means for interpreting Melitz results as the outcome of an Armington simulation with additional shocks to productivity and preferences variables.

The paper is written for CGE modelers who want to gain access to modern trade theory. This theory would not be of interest to CGE modellers if there we no prospect for empirically determining parameter values. Consequently we explain how parameters are being estimated for Melitz models.

Also with CGE modelers in mind, we describe our computational experience in solving a Melitz general equilibrium model using GEMPACK software. With GEMPACK, Melitz general equilibrium solutions can be computed directly without the Balistreri-Rutherford iterative process. However, the Balistreri-Rutherford decomposition plays a key role in our inter...

Resource Details (Export Citation) GTAP Keywords
Category: 2014 Conference Paper
Status: Published
By/In: Presented at the 17th Annual Conference on Global Economic Analysis, Dakar, Senegal
Date: 2014
Created: Dixon, P. (4/11/2014)
Updated: Batta, G. (5/21/2014)
Visits: 2,022
- Calibration and parameter estimation
- Dynamic modeling
- Software and modeling tools

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