In general, the gravity model can explain trade between countries, as well as trade between regions within countries. For example, Anderson and Van Wincoop (2002) fit the trade data between North American regions to a gravity model, in order to quantify the border effects. This paper employs a similar gravity model to explain the significance of proximity to border gates and trading partners in the varying export performance of Croatian counties. Although Croatia is geographically small compared to other EU members, we find that distance to border gates within the country affects export volumes significantly (for most of the product categories).

Using the gravity model, we identify the impact of distance on export volume. Then, _in the second stage_ , we analyze the local county specific factors that lead to variation in export performance, net of distance to border gates. The paper then seeks to answer the following questions: How are county-specific demographical factors such as population and low skill ratio correlated with the variation in export volume? Are infrastructure indicators, such as motorway and road density, as well as wages, GDP per capita, or the number of entrepreneurs associated with increased export volume?

In addition to the export volume, export diversity is also an important indicator of export performance. It has been shown in the literature that there is a fixed cost of entry to new markets, as in Hillberry and Hummels (2008), Lincoln and McCallum (2011) and Eaton et al (2014). This fixed cost implies that an initial, even small, trade flow to a specific destination could potentially lead to more trade in the future. Therefore, diversifying export destinations can help exporters to enter new markets and set-up new partnerships. Moreover, relying on a single destination would make exporters exposed to destination-specific demand shocks. In particular, Croatia is at risk since most of its exports are to the EU members. For example, countries that have diverse export portfolios were affected less severely from the 2007 global financial crisis which was particularly pervasive in the EU and US. Global demand and supply for different products and commodities are also subject to shocks; therefore countries that rely on the export of a single commodity are affected from such shocks significantly. Thus, countries that have a diverse export portfolio can reduce the exposure and better navigate economic downturns.

This paper develops two simple indices to calculate export diversity of products and destinations. It then uses these indices to shed light on the following questions: How are export diversity in destinations and products correlated with county specific demographic and economic factors such as low skill ratio, working age population, average wages, per capita GDP, or the number of entrepreneurs? Are infrastructure and research and development – related indicators, such as the number of patents, associated with more diversity in exports?

The paper is organized as follows: First, we estimate a gravity model using trade data between county origins to country destinations to pin down the export supply parameters of counties and the impact of distance to border gates and ports. We use county export data for NACE 2 digit product classification from 2007 to 2012 for the gravity estimation. Then, in a following econometric analysis, we show how the export supply parameters vary with county characteristics. Finally, we estimate the correlation of export diversity with county 3