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In this paper, we analyze the transition dynamics associated with an economy's response to trade liberalization. We start by reviewing the recent literature that incorporates firm dynamics into models of international trade. We then build upon that literature to characterize the role of firm dynamics, export-market selection, firm-level innovation, and firms' expectations regarding the time path of liberalization in generating those transition dynamics following trade liberalization. These modeling ingredients generate substantial aggregate transition dynamics as they shift and shape the endogenous distribution of firms over time. Our results show how the responses of trade volumes, innovation, and aggregate output can vary greatly over time depending on those modeling ingredients. This has important consequences for many issues in international economics that rely on predictions for the effects of globalization over time on those key aggregate outcomes.
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In this paper, we propose an extension of the productivity decomposition method developed by Olley & Pakes (1996). This extension provides an accounting for the contributions of both firm entry and exit to aggregate productivity changes. It breaks down the contribution of surviving firms into a component accounting for changes in the firm-level distribution of productivity and another accounting for market share reallocations among those firms -- following the same methodology as the one proposed by Olley & Pakes (1996). We argue that the other decompositions that break-down aggregate productivity changes into these same four components introduce some biases in the measurement of the contributions of entry and exit. We apply our proposed decomposition to the large measured increases in Slovenian manufacturing during the 1995-2000 period -- and contrast our results with those other decompositions. We find that, over a 5 year period, the measurement bias associated with entry and exit is substantial, accounting for up to 10 percentage points of aggregate productivity growth. We also find that market share reallocations among surviving firms played a much more important role in driving aggregate productivity changes.
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