Distance Puzzle: An Explanation from Global Value Chain Perspective

Abstract

Abstract Theoretically, along with the technology progress and infrastructure improvement, geographical distance should have a diminishing effect on international trade over time. However, the empirical studies failed to deliver consistent empirical support for it. This result is known as “distance puzzle”. In this paper, we propose that the intermediate goods across borders caused by global value chain (GVC) could be an important explanation for the “distance puzzle”. We firstly build a Ricardian model with two stages of production, by which the trade elasticity under the framework of traditional trade and GVC trade are derived and compared, to theoretically explain why the GVC will result in the “distance puzzle”. Then we empirically investigate the effect of distance and cross-border times on bilateral gross trade and value-added trade over time. After controlling the influence of the GVC, we observe a diminishing elasticity of distance over time, and prove that the GVC can explain the “distance puzzle”. The further heterogeneous analysis and robustness tests confirm our empirical results.