Global gains from reduction in trade costs

We develop a simple formula for computing the global welfare effect of reduction in bilateral trade costs, such as shipping costs or the costs of administrative barriers to trade. The formula is applicable to a broad class of perfect competition and monopolistic competition models and settings, including perfect competition with multi-stage production and Melitz’s (Econometrica 71(6):1695–1725, 2003) model with general firm productivity distribution. We prove that the underlying mechanism is the envelope theorem. We then extend our analysis to models with non-constant markups. Finally, we carry out some empirical applications to show the user-friendliness of the formula.