# **Annex 2:  Description of the gravity model in, Mann and Otsuki (2005) 13**

, Mann and Otsuki (2005) develops the gravity equation to examine the role of trade facilitation, measured by port efficiency, customs regimes, regulatory policy and information technology infrastructure, in the determination of bilateral trade: _t t ln(VJI ) = b1ln(100+TARIFFJI ) + b2 lnPEJ_ + _b3lnREJ_ + _b4lnSIJ + b5lnPEI_ + _b6lnCEI_ + _b7lnREII_ + _t t t t b8lnSII_ + _b9ln(GNPI ) +b10ln(GNPJ ) + b11ln(GNPPCI )+ b12ln(GNPPCJ ) + b13ln(DISTIJ)+b14DADJ +b15_ _DASEAN_ + _b16DNAFTA + b17 DLAIA + b18 DAUNZ + b19 DMERCOSUR + b20DEU + b21DENG + b22DFRC + b23DSPN_ _+ b24 DARB + b25 DCHN + b26 DGMN + b27 DPOR + b28 DRUS + b29 D2000 +_ ε _JI t_ where _I_ and _J_ stand for the importer and exporter respectively, and _t_ denotes trading years ( _t_ =2000, 2001). Parameter _b_ ’s are coefficients. The term ε _JI t_ is the error term, assumed to be normally distributed with mean zero. The value of manufactures exports from country _J_ to _I_ is denoted as _VJI_ (so exporter to importer) The term _TARIFFJI_ denotes applied tariff rate in the percent ad valorem term that is specific to the trading partners _I_ and _J_ and year _t_ . The inclusion of the tariff variable is useful for reducing omitted variable biases. It is particularly important for some nations since unlike the EU whose tariff policies are harmonized, applied tariff rates generally vary across most other countries and possibly across their exporting partners.

The terms _PEJ_ , _REJ_ and _SIJ_ denote exporting <u>country</u> _J_ ’s indicators of port efficiency, regulatory policy, and information technology infrastructures. Similarly _PEI_ , _REI_ and _SII_ stand for the same trade facilitation measures in the importing country. For the importing country we include one additional measure i.e. ‘Customs Regimes’ or _CEI._ We use ‘Customs Regimes’ only for the importers since in bilateral trade customs is more relevant as a factor affecting imports than exports.

This set of trade facilitation variables is different than in WMO. There, we included only _PEI_ , _REI, SII_ , and _CEI ._ That is, for country _I_ we considered only the effect on imports of unilateral trade facilitation. Country _I_ ’s exports improved indirectly when its trading partners improved their trade facilitation efforts. In this formulation, we take explicit account of the fact that country _J’_ s exports (as well as its imports) will improve through its own trade facilitation efforts.

The term GNP denotes gross national product and _GNPPC_ denotes per capita GNP, where both are expressed in 1995 US dollar terms. Geographical distance between capital cities _I_ and _J_ is denoted as _DISTIJ_ . Dummy variables are included to capture the effect of preferential trade arrangements, language similarity and adjacency. The trade arrangements dummies include NAFTA ( _DNAFTA_ ), ASEAN ( _DASEAN_ ), LAIA ( _DLAIA_ ), AUNZ ( _DAUNZ), MERCOSUR (DMERCOSUR)_ and EU ( _DEU)._ The language dummies include English ( _DENG_ ), French ( _DFRC_ ), Spanish ( _DSPN_ ), Arabic( _DARB_ ), Chinese ( _DCHN_ ), German( _DGMN_ ), Portuguese ( _DPOR_ ) and Russian ( _DRUS_ ). The adjacency dummy _DADJ_ takes the value of one if country _I_ is adjacent to country _J_ and zero otherwise. Additionally a dummy for year 2000 is included in the model to control for time-specific shocks.

> 13 Source:, Mann and Otsuki (2005).

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