The Econometrics of Elasticities or the Elasticity of Econometrics: An Empirical Analysis of the Behavior of U.S. Imports

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Abstract
Fifty years of econometric modeling of U.S. import demand assumes that trade elasticities are autonomous parameters, that both cross-price effects and simultaneity biases are absent, and that expenditures on domestic and foreign goods can be studied independently of each other. To relax these assumptions, the paper assembles a simultaneous model explaining bilateral U.S. import volume and prices. Spending behaves according to the Rotterdam model which, by design, embodies all the properties of utility maximization and does not treat trade elasticities as autonomous parameters. Pricing behaves according to the pricing-to-market hypothesis which recognizes exporters' incentives to discriminate across export markets. Parameter estimation relies on the Full Information Maximum Likelihood (FIML) approach and uses bilateral price data for 1965-1987. According to the evidence, treating trade elasticities as autonomous parameters and ignoring the statistical implications of simultaneity and optimization biases the structural estimates and undermines our effectiveness in addressing questions relevant to economic interactions among nations.
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