Estimates of Trade Costs using Gravity Equation in Mixed Effects Model

Abstract

By using a log-linear Taylor-series expansion to linearize the multilateral resistance terms, this study aims to estimate the theory-based gravity equation in mixed effects model to obtain not only unbiased and consistent but also efficient coefficient estimates of trade cost variables. We show that coefficient estimates of trade cost variables estimated using mixed effects model are close to those found by the existing literature; however, only those in this paper are efficient as a result of accounting for unobserved country heterogeneity and approximation errors.