Mathematics of Generalized Versions of the Melitz, Krugman, and Armington Models with Detailed Derivations
Date of this Version
Journal of Global Economic Analysis, Volume 7 (2022), No. 2, pp. 66-139.
We provide detailed textbook style mathematical derivations of an extended version of the heterogenous firms model of Melitz (2003), as well as the Armington (1969) and Krugman (1980) models. Our model of heterogeneous firms extends the model of Melitz (2003) by allowing multiple sectors, intermediates, heterogeneous regions based on data, labor-leisure choice, initial heterogeneous tariffs, multiple factors of production, the possibility of sector-specific inputs and trade imbalances based on data, and we incorporate global and unilateral tariff policy shocks. Although the models in this paper are extensions in numerous directions of the Melitz trade model of heterogeneous firms, the pedagogical approach in this paper should substantially facilitate the accessibility of the applied heterogenous-firms model of international trade. Balistreri and Tarr (2022) apply these models to GTAP data where they assess the relative welfare impacts in the Armington, Krugman, and Melitz style models of trade cost reductions in eighteen model variants. This paper documents the equations of those models, and we hope it will be a clear roadmap for understanding and constructing modern multi-sector, multi-region international trade models that must be fitted to data.
Supplemental Materials attached below.