Knowledge Diffusion, Trade, and Innovation across Countries and Sectors

We provide a unified framework for quantifying the cross-country and cross-sector interactions among trade, innovation, and knowledge diffusion. We study the effect of trade liberalization in an endogenous growth model in which comparative advantage and the stock of knowledge are determined by innovation and diffusion. We calibrate the model to match observed cross-country and cross-sector heterogeneity in production, innovation efficiency and knowledge spillovers. Our counterfactual analysis shows that a reduction in trade costs induces a re-allocation of R&D and comparative ad- vantage across sectors. Heterogeneous knowledge diffusion amplifies the specialization effects of trade-induced R&D re-allocation, becoming an important source of growth and welfare.