Inventories, Input Costs, and Productivity Gains From Trade Liberalizations

Shafaat Yar Khan, Armen Khederlarian

International Economic Review, August 2024

Shafaat Yar Khan

Economics Department

Economic Policy

International Affairs

Trade

International Economic Review

Shafaat Yar Khan

Sourcing internationally allows firms to access cheaper or better inputs but increases logistical costs, particularly through higher inventory holdings. This article examines the productivity gains from trade liberalizations accounting for inventory costs—typically omitted from revenue-based measures of productivity.

In model simulations, we show that omitting these overestimates the effect of input tariffs on productivity and that controlling for inventories in the estimation of productivity corrects the bias. We document these facts during India's 1990s reforms. First, firms' inventories increase strongly with imports. Second, productivity gains drop by 20–50% once inventory costs are accounted for.