Can Gravity Model Explain BIMSTEC's Trade?

Abstract

This paper examines the trading pattern of Bay of Bengal Initiative for Multi- Sectoral Technical and Economic Cooperation (BIMSTEC) by employing an augmented gravity model. The econometric specification followed Egger (2000, 2002), Baltagi et al. (2003) and Serlenga and Shin (2007). Diagnostic checks imply the presence of serial correlation, heteroscedasticity and contemporaneous correlation in both import and export panels, which are allowed for in the Prais-Winsten regression with panel-specific AR(1). Regression estimates show that BIMSTEC's imports follow the Linder hypothesis, while the exports exhibit Heckscher-Ohlin-Samuelson prototype. Results also suggest that distance elasticity is negative and significant. Real depreciation is import-reducing and export enhancing. Common language and bilateral trade agreement are found to be import and export enhancing, respectively. Governance of both local and destination countries impact trade of the bloc positively. Finally, belonging to the bloc accounts for about 29% of its exports, which is an indication of good prospect if trade policies are liberalised within the bloc. Thus, gravity model can successfully explain the pattern of the bloc's trade.

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