to unskilled workers, the so called skill premium. As a consequence, income inequality has widened (see Epifani and Gancia (2006), Matsuyama (2007), Verhoogen (2008), Goldberg and Pavcinik (2007) and the literature mentioned herein). On the other side, other studies nd that trade liberalization reduces the skill premium and hence inequality especially in middle and low-income countries (see McCaig (2011) for Vietnam, Zhang and Wan (2006) for China, Amiti and Cameron (2012) for Indonesia, Robertson (2005) for Mexico, Gonzaga et al. (2006) for Brazil, Kumar and Mishra (2008) for India).

In our set-up, trade liberalization is captured by a reduction in xed export costs in both countries and it is modeled in the following way: in a rst phase, the "Home" country, which is the developed country (i.e. the United States), cuts its per-unit iceberg trade costs (i.e. _τt_ decreases from 1.7 to 1.5). This process starts at the beginning of the simulation period and ends 70 quarters later (i.e. 17.5 years later). The cut in iceberg trade costs gives a competitive advantage to the developed country. In a second phase, which starts 5 years later (i.e. 20 quarters later), the emerging country (i.e. Brazil) experiments the same decline in its own iceberg costs. Hence, 22.5 years after the initial reduction of trade costs observed in the developed country, iceberg costs in the emerging country will have converged to those observed in the developed country. At this third phase, the two countries benet from the same reduction in trade costs and trade liberalization becomes symmetrical. For the sake of clarity, we rst analyze the dynamics in the developed country and then in the emerging country.

We discuss the dynamics both in the short term, i.e. before than the emerging country benets from trade liberalization, and in the medium to long term, i.e. when both countries can take advantage for the trade cost reductions. Simulations for the good sector and prices are displayed in Figure 1, while for the labor market are displayed in Figure 2 and Figure 3. Responses to the trade shock are represented by the blue solid lines.

The impact on the goods sector. In the rst phase of trade liberalization, the developed country cuts its trade costs, but the emerging country still does not benet from new technologies allowing it to reduce its trade costs. In this phase, lower trade costs in the developed country allow exporters to have higher prots. Trade translates into increased protable opportunities for exporting rms, which induces more rms to enter the export market. These rms face lower costs and hence increase their labor demand, which ultimately leads to higher real wage. Higher production costs, in turn, brings down the prots of the least productive rms and hence, at a second stage, rm entry is reduced. Notice that lower-productivity rms do not export and produce only for the domestic market. Hence, as it is shown in the Figure 1, the number of rms producing only for the domestic market in the developed country declines, but at the same time the number of exporters in this country increase (the export-cuto decreases).

A higher proportion of exporting rms in the developed country leads to higher average quality of goods and higher productivity, as indicated also in other studies (e.g. AlemanCastilla (2006)).

In the short run, the emerging economy does not observe a decline of trade costs. In19