2 Economics 2010-11

Vol. 4, 2010-11 | April 8, 2010 | http://www.economics-ejournal.
org/economics/journalarticles/2010-11
The Effect of Technological Innovation on

International Trade
Laura Márquez-Ramos
Universitat Jaume I and Institute of International Economics, Castellón
Inmaculada Martínez-Zarzoso
Universitat Jaume I and Institute of International Economics, Castellón,
and Ibero-America Institute for Economic Research, Göttingen
Abstract In this paper, the effect of technological innovation on sectoral exports is

analysed using a gravity model of trade. The technological achievement index (TAI) and
its four components, creation of technology, diffusion of old innovations, diffusion of
recent innovations and human skills, are used as proxies for technological innovation. The
two first components are considered proxies for knowledge acquisition and assimilation
(potential absorptive capacity), whereas the last two are taken as proxies for knowledge
transformation and exploitation (realised absorptive capacity). We hypothesise that the
effect of technological innovation on trade could vary according to the technological
achievement by generating a non-linear relationship between technological innovation and
trade. Our findings indicate a positive and non-linear effect of technological innovation on
export performance, which indicates that there are thresholds for positive signs to occur.
To foster exports, countries have to consider not only acquisition and assimilation
capabilities, but also transformation and exploitation capabilities once a minimum level of
potential absorptive capacity has been achieved.
Special issue
The Knowledge-Based Society: Transition, Geography, and Competition Policy
JEL F10
Keywords Technological innovation; international trade; gravity model; potential and
realised absorptive capacity.
Correspondence Laura Márquez-Ramos, Department of Economics and Institute of
International Economics, Universitat Jaume I, Campus del Riu Sec, 12071 Castellón,
Spain; e mail: lmarquez@eco.uji.es
© Author(s) 2010. Licensed under a Creative Commons License - Attribution-NonCommercial 2.0 Germany
1 Introduction
International trade theory highlights the importance of technological innovation in

explaining a country’s international competitiveness (Posner 1961; Vernon 1966;
Fagerberg 1997). Schumpeter (1944) viewed economic development as a dynamic
process deriving from industry and exports, with innovation playing a key role in
the development of both.
Empirical work linking trade to technological innovation based on a gravity
framework show that the effect of technological innovation on exports varies with
country characteristics. Loungani et al. (2002) assessed the importance of
information links that associate technological innovation with lower
communication costs, and stated that the negative effect of physical distance on
trade could be reduced by reducing the barriers to informational flows. These
authors distinguished between developed and developing countries when analysing
whether better informational infrastructure can substitute for geographical
distance. Their results indicate that the degree of substitution between physical and
informational distance varies systematically based on country characteristics. The
authors tested for a purely linear relationship between informational infrastructure
and trade without considering any threshold effects. Fink et al. (2005) analysed the
effect of communication costs on bilateral trade flows by taking into account that
this effect might vary with sectoral characteristics. Their results show that cross-
country variations in communication costs have a significant effect on
international trade. Indeed, they found that lower communication costs foster
differentiated good trading to a greater extent than homogeneous good trading.
Since information and communication needs are much greater for differentiated
goods, trade in these products is likely to be more sensitive to variations in
communication costs (Harris 1995).
These results may depend on the measure of innovation that is used. Indeed,
Kuznets (1962) noted the problems with that the lack of appropriate innovation
measures may create in economic research related to inventive activity. In recent
years, considerable attempts have been made to measure technological innovation
across countries. Wakelin (1997) classified different proxies for technological
innovation used in the literature and pointed out that the main choice of
technological innovation proxies was between using an input to the innovation
process, such as Research and Development (R&D) expenditure or the number of
www.economics-ejournal.org 1
scientists and engineers employed in research departments, or an output, such as
number of patents. In a more recent study, Keller (2004) pointed out that
technological innovation is an intangible that is difficult to measure directly and
that the three indirect approaches that can be used are the measurement of inputs
(R&D), outputs (patents) and the effect of technological innovation (higher
productivity).
Technological innovation has been defined as a country’s “absorption
capacity”—the ability to put information from abroad into practice by developing
new products and processes which play a key role in international trade and
economic development. 1 Therefore, the development of relevant indicators to
measure the level of technological innovation—seen as absorption capacity—
across countries is of great interest in a knowledge-based economy with high and
increasing dependence on information technology and human capital. Márquez-
Ramos et al. (2007) have recently compiled a number of indices and variables to
measure the achievement of technological innovation, understood as absorptive
capacity. As a nation’s technological achievements are very complex, it is difficult
to capture them in any single index that reflects the full range of technologies and
quantifying aspects of technology creation, diffusion and human skills. This being
said, one measure that has attempted to capture technological innovation in a
relatively broad manner is the Technological Achievement Index (TAI), which has
been used in empirical analyses (Martínez-Zarzoso and Márquez-Ramos 2005;
Márquez-Ramos 2007). This index has been constructed using indicators of a
country’s achievements in four dimensions: creation of technology, diffusion of
recent innovations, diffusion of old innovations and human skills. These analyses
have shown that technological innovation is of great importance to foster exports.
We can infer from the above-mentioned results that, to the extent that
technological innovation is associated with lower communication costs, both
internally and externally, we should find similar results as those of Fink et al.
(2005) in our empirical application using the TAI index.
The main aim of this paper is to provide empirical evidence on the relationship
between technological innovation and international trade. A non-linear relationship
between these two variables would indicate that the effect of improved
technological innovation on trade could vary according to the technological
_________________________
1 For a review see Zahra and George (2002).
achievement in countries. Hence, the form of heterogeneity we investigate here is
whether a country’s level of technological innovation achievement (or ability)
affects the relationship between technological innovation and trade. This effect is
analysed separately, firstly for developed and developing countries to determine
whether other differences in economic development also affect the innovation-
trade relationship, and secondly for different sectors, in order to pursue the results
pioneered by Fink et al. (2005) in a non-linear framework.
The aggregated results show that a “U-shaped” relationship exists between
exports and diffusion of old innovations, whereas an inverted U-shaped
relationship is found between exports and diffusion of recent innovations and
between exports and human skills. With respect to the more specific results, on the
one hand the sectoral results indicate that the effect of the importer’s TAI on trade
is similar for all categories of goods. However, whereas the effect of the exporter’s
TAI for differentiated goods shows an inverted U-shaped relationship, a U-shaped
curve is found for the rest. Hence, while technological innovation improvements
seem to have a greater effect on exports of differentiated goods for the
intermediate levels of technological achievements, the effect on exports for
referenced and homogeneous goods is found to be more marked for the very high
levels of technological achievement. On the other hand, the results of the specific
country-groups show that when the importer is a developed country, technological
achievement has a positive effect on exports which is magnified for higher levels
of technological innovation. Otherwise, when the importer is a developing
country, a U-shaped relationship between TAI and trade is found.
The importance of our results falls in several areas. Methodologically
speaking, we obtain a model of threshold effects of technological innovation on
international trade. In terms of policy conclusions, we find that different levels of
technological innovation are associated with different effects on exports in
developed and developing countries, as well as in different sectors, owing to the
existence of threshold effects in the relationship between technological innovation
and trade. The main message concerning the development strategy to be followed
by developing countries is that, according to our findings, countries exports would
benefit from higher levels of technological innovation if they are able to achieve a
minimum level of acquisition and transformation capabilities. Hence, investment
leading to achieve these thresholds is desirable.
The paper is arranged as follows: Section 2 presents the theoretical framework.
Section 3 offers the main hypothesis. Section 4 describes data, sources and
variables. Section 5 presents the estimation strategy, the main results and a number
of robustness checks. This section also includes an endogeneity analysis as
technological variables can be considered endogenous in the gravity model of
trade. A final section summarises the main findings.
2 Theoretical Framework
The last few decades have witnessed important changes in international trade
patterns, with an increasing number of countries that have become closely linked
to one another through international trade and foreign direct investment.
Technological innovation plays an important role in this world-wide inter-
dependence. Within this framework, international trade theory highlights the
importance of technological innovation in explaining the international
competitiveness of a country (Fagerberg 1997).
Classical thinking, which stressed international differences in technology in
conjunction with international differences in real wage levels as a source of
comparative advantage, dominated trade theory until the appearance of the
Heckscher–Ohlin (H–O) theory which centred on resource endowments as the
main factor explaining international trade patterns. 2 Nevertheless, technological
innovation once again came to the forefront of research into trade with the
development of the technology gap (Posner 1961) and the product cycle theories
(Vernon 1966). On the one hand and according to Posner’s assumptions (1961),
trade is generated by differences in the rate and nature of innovation. On the other
hand, Vernon (1966) places less emphasis on the comparative cost doctrine 3 and
more on the timing of innovation. Along these lines, Jones and Bhagwati (1970)
considered the way in which the H–O model could be applied to Vernon's product
_________________________
2 Jones (1970) states that “in a sense, the Heckscher-and-Ohlin model represents a step
backward from the earlier Ricardian tradition” (page 78).
3 Comparative advantage is the ability to produce a good at a lower cost, relative to other
goods, and compared to another country.
cycle theory. Vernon argued that developed countries tend to have a comparative
advantage in producing those commodities, that are newly developed, and
suggested a three-factor model: capital, "ordinary" labour, and human skills.
Developed countries have a relative abundance of the third factor and, due to the
role this factor is assumed to play in the production of new combinations or
innovations in particular, developed countries will tend to have a comparative
advantage in producing new commodities at early stages of production. Jones
(1970) also highlighted the view that technological innovation is improved
because there is "learning-by-doing". According to this concept, the higher the
level of production (or the more "experience" in the techniques gained by using
them), the greater the rate at which these techniques become more productive.
These early papers mainly focused on the timing of innovations and considered
R&D investment and human skills as the main drivers of innovation, but do not
view the technological innovation process as absorptive capacity. Cohen and
Levinthal (1990) introduced the concept of absorptive capacity, which is the
ability to recognise the value of new, external information, to assimilate it, and to
apply it. These authors consider two faces of technological innovation: creation
and absorption. In their model, some level of absorptive capacity is necessary to
create, and the cost of adoption increases as absorptive capacity falls. Hence,
technological innovation is considered to reduce the cost of adoption. Zahra and
George (2002) distinguished not only two subsets (potential and realised
absorptive capacity), but also four dimensions of absorptive capacity: acquisition,
assimilation, transformation and exploitation capabilities. Knowledge acquisition
and assimilation capabilities compose the potential absorptive capacity, whereas
knowledge transformation and exploitation compose in the realised absorptive
capacity. Their model highlights external sources of knowledge and experience as
key antecedents of absorptive capacity. Along these lines, the learning process will
lead to an ambiguous effect of technological innovation on exports that will affect
the capacity of the country (sector) to acquire, assimilate, transform and exploit
new external information. On the one hand, the more "experience" about
techniques gained by using them, the greater the rate at which these techniques
become more productive. On the other hand, international transmission of new
techniques carries a cost because learning-by-doing must occur locally in order to
reduce local costs. Hence, the learning process must be taken into account to
analyse the relationship between technological innovation and exports at a national
level. This relationship could significantly differ depending on the specific
component of technological innovation considered. With respect to the TAI index,
a higher potential absorptive capacity could be related to a higher level of
technology creation and diffusion of old innovations, whereas a higher realised
potential absorptive capacity could be related to a higher level of diffusion of
recent innovations and human skills.
Given that different technological innovation components capture the above-
mentioned “two faces” (potential and realised) of technological innovation to
different degrees, we aim to transfer these concepts into our model, which is
specified in the next section. We associate absorptive capacity with the ability to
learn and implement the technologies and related practices already used by
developed countries (Dahlman and Nelson, 1995). Once countries move from the
pre-catching-up and the catching-up stage to the pre-frontier-sharing and the
technological frontier, the cumulative nature of the learning process and the
increase complexity of external knowledge could result in a non-linear relationship
between national absorptive capacity and exports. Once countries achieve a
threshold level of absorptive capacity, absorption and catching-up processes may
occur rapidly (Criscuolo and Narula, 2008), and firms are able to compete in world
markets. Along this line, the expected non-linear relationship between
technological innovation and international trade is supported by the findings of
Estrada et al. (2006). They found an inverted “U” relationship between some
variables related to technological innovation (structural characteristics—size, age
and foreign capital intensity—, technological acquisition—machinery and
equipment, technological services—and innovative results—new products, product
improvements and diversification—) and the probability to export. They also
found a “U” effect of R&D intensity on export probability, implying that
companies with a very low or very high R&D intensity have a higher export
probability than those with a medium R&D intensity.
Eaton and Kortum (2002) developed a Ricardian model to explore the role of
trade in spreading the benefits of technological innovation. Their theory delivers
an augmented gravity equation for bilateral trade that identifies the underlying
parameters affecting the relationship between technological innovation and trade.
In a linear specification, their results indicate that foreigners benefit on average by
only a tenth as much as the innovating country, but the benefits depend on the
distance to trading partners; the benefits of close neighbours are similar to those of
the innovator welfare benefits (measured as real GDP).
We go one step further and ask whether the benefits, in terms of trade, derived
from technological innovation depend not only on the origin of the innovation
(home or foreign), but also on the level of technological innovation in each
country that is linked to the capacity that a given country has to acquire,
assimilate, transform and exploit external information. Hence, we investigate the
existence of a non-linear relationship 4 whose causality goes from technological
innovation to trade, and which accounts for the fact that different stages of the
learning process may play a role in determining this relationship. 5 We are aware
of the fact that causality could work in the opposite direction, 6 that is, with more
trade increasing technology transfer, the so-called technological spillovers, and
welfare. While we control for endogeneity in our estimation methodology, we
recognise the importance of investigating this reversal effect in detail in future
work. The current paper, in line with the work by Eaton and Kortum (2002) and
Fink et al. (2005), focuses more narrowly on the technology-foster-trade argument.
The importance of studying this specific question relates to the supply-side
determinants of exports and competitiveness: the development of new products,
which are highly competitive abroad, usually fosters exports, and more trade
contributes to improved economic conditions. Hence, this could be used as an
argument to determine the innovation and industrial policies to be followed by
developing countries to help facilitate their path towards economic development.
_________________________
4 Non-linearity on the relationship between technological innovation and international
trade is assessed by means of a quadratic term, quite a common practice in the literature. In
most cases, the added squared terms are statistically significant. Hence, a non-linear
specification is preferred to a linear one.
5 Along these lines, Criscuolo and Narula (2008) argued that during the catching-up phase,
knowledge accumulation occurs predominately through the absorption of trade and FDI-
related R&D spillovers. Then, national absorptive capacity and the accumulation of
knowledge stock are simultaneously determined.
6 To obtain unbiased estimates, we used an instrumental variables estimation procedure
that accounts for the endogeneity of the technological variables in the trade model.
3 Main Hypothesis
Pursuing the implications of the work of Cohen and Levinthal (1990) and Zahra
and George (2002), our first hypothesis is that the relationship between
technological innovation and trade presents a different shape depending on the
proxy used to measure technological innovation. We consider four different
dimensions of absorptive capacity. In a national-level analysis, we measure
acquisition, assimilation, transformation and exploitation capabilities (or
dimensions) as creation, diffusion of old innovations, diffusion of new innovations
and human skills, respectively. 7 Potential absorptive capacity is a function of the
acquisition and assimilation capacities, whereas realised absorptive capacity is a
function of transformation and exploitation capabilities. Our results support this
first hypothesis since a U-shaped relationship is found between creation of
technology and exports and between diffusion of old innovations and exports
(potential absorptive capacity), whereas an inverted U-shaped relationship is found
between diffusion of recent innovations and exports and between human skills and
exports (both of which are proxies for realised absorptive capacity).
Going into the implications of the work of Criscuolo and Narula (2008), our
second hypothesis states that developing countries may need a minimum
technological innovation level to obtain trade gains derived from higher
technological innovation achievements, whereas the already achieved
technological innovation level in developed countries is sufficient to obtain trade
gains from technological innovation developments. In relation to the related
theories, the learning process may affect developed and developing countries
differently since absorptive capacity increases diversity of knowledge in trading
partners, and this diverse background provides a more robust basis for learning
since it increases the prospect of external information relating to what is already
known (Cohen and Levinthal 1990). This hypothesis is consistent with the results
obtained in this paper, which shows a U-shaped relationship between the
importer’s creation of technology (national acquisition capability) and trade and
between the importer’s diffusion of recent innovations (national transformation
capability) and trade when the importer is a developing country.
_________________________
7 In a similar fashion as in Zahra and George (2002).
Finally with respect to the type of products traded, our third hypothesis is that
the effect of technological innovation on exports should be more robust and
greater in magnitude for differentiated products than for homogeneous products.
As pointed out by Cohen and Levinthal (1990), absorptive capacity is likely to
play a more relevant role for complex products. Fink et al. (2005) and Tang (2006)
show that technological innovation is more relevant for trade of sophisticated
products, where “sophistication” is measured by product differentiation and high
technology content. The results obtained in the present paper show a greater effect
of technological innovation in increasing exports of differentiated and high-
technology goods for intermediate levels of realised absorptive capacity. This
result is consistent with the interpretation that the more experience in techniques
gained by producing goods that embody a high technological content, the more the
exports. 8
Our results contribute to the understanding of the literature on technological
innovation and trade with two aspects. Firstly, absorptive capacity needs to be
built in developing countries before they are able to profit from technological
innovation improvements. Secondly, improving absorptive capacity would
especially contribute to not only increase exports in sophististicated products, but
also eventually to the diversification of exports, which is a widely recognised
strategy to foster economic development.
4 Data, Sources and Variables

We obtained bilateral trade data by commodity from Feenstra et al. (2005). The
level of disaggregation chosen is 4-digit Standard International Trade Classifica-
tion (SITC). The initial sample of countries comprised 13 exporters and 167
importers in the year 2000. The 13 exporters were chosen according to the
classification matrix constructed in Márquez-Ramos (2007). Due to data
limitations concerning the technological innovation variables, the final sample
includes 13 exporters and 77 importers in the year 2000.
_________________________
8 Zahra and George (2002) stated that experience will influence the development of a
firm’s absorptive capacity. These authors pointed out that some experiences are gained
from learning-by-doing. This argument can be generalised at a national level.
The databases used to construct the exogenous variables for the regression
analysis are Word Bank (2005) for incomes, World Integrated Trade Solution
(WITS) for tariffs, and the Doing Business database (2006) for transport costs. 9
Distance between capitals, a common official language and the colonial dummy
are taken from CEPII. 10
Two types of variables are used. First, we specify the income, technological
innovation, transport costs, geographical, cultural and integration dummies that
vary across countries. Secondly, we specify the tariffs, high-technology and other
sectoral dummies that vary across sectors. The high-technology dummy is based
on the classification of the Spanish National Statistics Institute (INE). 11
Commodities are defined using the SITC, revision 3, at the 4-digit level.
Concordances from the Centre for International data at UC Davis between the
SITC revisions 2 and 3 are used since trade data are defined according to the SITC
revision 2. Finally, the sectoral dummies are based on Rauch (1999) and were
obtained from Jon Haveman’s International Trade data web page.
Technological innovation is proxied using the TAI, which is a measure
introduced by the UNDP in its Human Development Report of 2001. The TAI
aims to capture how well a country as a whole is participating in creating, using
and diffusing technology and in building a human skill base to acquire knowledge.
A nation’s technological achievements are very complex and, therefore, it is
difficult to capture them in a single index that reflects the full range of
technologies and which quantifies all aspects of technology creation, diffusion and
human skills. Hence, it is a good measure of technological innovation when
viewed as absorptive capacity since it captures both potential absorptive capacity
and realised absorptive capacity. In order to create as broad an index as possible,
_________________________
9 This database was recently created by the World Bank and it compiles procedural
requirements for exporting and importing a standardised cargo of goods.
10 The dist_cepii file was taken from:
http://www.cepii.fr/anglaisgraph/bdd/distances.htm.
The language variable is based on the fact that two countries share a common official
language (comlang_off). Simple distances are calculated following the great circle formula
which uses latitudes and longitudes of the most important cities/agglomerations (in terms
of population).
11 “List of High-Technology products according to the SITC codes and corresponding to
codes CNPA-96 and PRODCOM”, INE (2006).
however, the TAI was constructed using indicators of a country’s achievements in
four dimensions: creation of technology, diffusion of old innovations, diffusion of
recent innovations and human skills.
As we will be using the disaggregated measures of technological innovation
that underline the TAI index in our equations as well as the index as a whole, some
additional information on how the index is composed is necessary. At a national
level, the creation of a technology index represents part of the potential capacity to
innovate. This index is constructed using two indicators to capture the level of
technological innovation in a country. The first is the number of patents granted to
residents, which reflects the current level of invention activities. The second
indicator is receipts of royalty and license fees from abroad, which indicates the
stock of successful innovations made in the past that are still useful. Two
additional indicators measure the diffusion of old innovations or the national
technological innovation assimilation level, namely number of telephones
(mainline and cellular combined) and electricity consumption. These indicators are
important since both are needed to use new technologies and basic related
activities. Electricity consumption is also considered a proxy for the use of
machinery and equipment since most of it is run by electric power (UNDP,
2001). 12 Both the creation of technology and diffusion of old innovations indices
are used here as proxies of potential absorptive capacity.
Two indicators are used to measure the diffusion of recent innovations or the
national technological innovation transformation capability. The first, Internet
hosts, reflects the diffusion of the Internet which enables the fastest transfer of
information and an easier adaptation of firms and organisations in a changing
environment. The second, exports of high technology and medium technology
products, illustrates the country’s level of specialisation in technologically
intensive goods. Finally, the human skills index, or the national exploitation
_________________________
12 Both indicators measuring the diffusion of old innovations are expressed in logarithms
with an upper level (average in OECD member countries), allowing to eliminate useless
differences among all those countries whose telephony and electricity shares are above the
average since they are only relevant at earlier stages of technological advance. Expressing
the measure in logarithms ensures that as the level of the index increases, its contribution
to the composed index decreases, allowing to discriminate among less developed countries
and reflecting the idea that after a certain level, neither telephones nor electricity
consumption enriches the technological capacity of a given country.
capability, is measured by two indicators: mean years of schooling, representing
the fact that people can be users of technology if they have a basic education on
which to develop cognitive skills; and the gross tertiary science enrolment ratio,
showing that the higher the number of inhabitants with the ability to develop skills
in science, mathematics and engineering, the greater the number of technology
creators. Both diffusion of recent innovations and human skill indices are used as
proxies of realised absorptive capacity in the present paper.
The TAI index correlates highly with other national technological innovation
indices, such as the ArCo (Archibugi and Coco 2004) and the Information and
Communication Technology index (ICT) (Biggs 2003). The ArCo index takes into
account three dimensions (creation of technology, diffusion of technology and
development of human skills), whereas the ICT index takes into account two
dimensions (connectivity and access). Therefore, the TAI index is a more suitable
measure of technological innovation since it has more components (four) than
competing indices, and this facilitates the distinction between potential and
realised absorptive capacity.
Scores are derived as an index in relation to the maximum and minimum
scores achieved by countries in any indicator of the four above-mentioned
dimensions. The performance of each index takes a value of between 0 and 1,
which is calculated according to Equation (1).
( actual value − observed min value )

TAI = (1)
(observed max value − observed min value )
The TAI is calculated as a simple average of the four dimension indices, based
on the assumption that components play a comparable role of a country’s
technological achievement. The TAI provides a summary of a society’s
technological achievements and it allows countries to be classified into four
groups according to their level of technological innovation and their stage of
knowledge accession (Criscuolo and Narula 2008): Leaders (TAI>0.5) are
countries in the technological frontier-sharing stage, Potential Leaders
(0.35<TAI<0.49) are countries in the pre-frontier-sharing stage, Dynamic
Adopters (0.19<TAI<0.34) are countries in the catching-up stage and Marginalised
(TAI<0.19) countries are those in the pre-catching-up stage.
Table A.1 13 in the Appendix shows a summary of the data and sources used in
this paper. Table A.2 provides the list of countries classified into all four groups
where, for instance, Spain is classified as a potential leader, while Finland has
obtained the highest score in the group of technological leaders. The lowest score
goes to Mozambique which is classified in the group of technologically
marginalised countries.
5 Empirical Analysis
5.1 Model Specification and Estimation Methodology
In order to analyse the effect of technological innovation on sectoral trade, a
gravity equation is specified (Bergstrand 1985, 1989; Deardorff 1995) and
estimated for the disaggregated data. The estimated equation is:
ln X ijk = α 0 + α1 ⋅ ln Yi + α 2 ⋅ ln Y j + α 3 ⋅ Adj ij + α 4 ⋅ Land i + α 5 ⋅ Land j +

+ α 6 ⋅ MERC + α 7 ⋅ NAFTA + α 8 ⋅ CAN + α 9 ⋅ EU + α 10 ⋅ EMU +
+ α11 ⋅ ECOWAS + α12 ⋅ CEFTA + α13 ⋅ ln Dist ij + α 14 ⋅ Lang ij +
(2)
+ α15 ⋅ Colony ij + α 16 ⋅ TAI i + α17 ⋅ TAI j + α18 ⋅ (TAI i ) + α 19 ⋅ (TAI j ) +
2 2
+ α 20 ⋅ ln Tariffs ik + α 21 ⋅ ln TC i + α 22 ⋅ ln TC j + α 23 ⋅ high _ tech k + α 24 ⋅ hom k +

+ α 25 ⋅ ref k + α 26 ⋅ DP + ε ijk
where ln denotes natural logarithms; Xijk denotes the value of exports of

commodity k from country i to j; Yi and Yj are the incomes in the exporter’s market
and in the destination market, respectively; Adjij is a dummy that indicates whether
trading partners are contiguous; Landi and Landj take the value of 1 when the
exporting or importing countries are landlocked, respectively, and zero otherwise.
_________________________
13 The first column lists the variables used for the empirical analysis; the second column
outlines a description of the variables, and the third column shows the data sources.
MERC is a dummy that takes a value of 1 when both exporting and importing
countries belong to the Mercosur agreement; 14 NAFTA takes a value of 1 when
countries are members of the North American Free Trade Area, and CAN is a
dummy representing Andean Community members. 15 EU takes a value of 1 when
countries are members of the European Union. Additionally, EMU takes a value of
1 when countries are members of the Economic and Monetary Union; 16
ECOWAS takes a value of 1 when countries are members of the Economic
Community of West African States. 17 Finally, CEFTA takes a value of 1 when
countries are members of the Central European Free Trade Agreement. 18
Distij is the geographical great circle distance in kilometres between the most
important cities (in terms of population) of country i and j. Langij is a dummy for
countries sharing a common official language. Colonyij is a dummy that takes the
value of 1 when trading partners have had a colonial link at any time.
Tariffik is the simple average effectively applied tariff for all the countries
importing each commodity from the 13 exporters. TCi and TCj are the transport
costs of the exporting and importing countries, respectively.
High-techk is a dummy that takes the value of 1 when the commodity is a high-
technology commodity. The variable homk takes the value of 1 when a commodity
is homogeneous, and zero otherwise, whereas refk takes the value of 1 when a
commodity is reference-priced according to the conservative Rauch classification
(1999). The DP dummy is included in the regression to take country-heterogeneity
into account. It takes the value of 1 when trading partners are richer than the
_________________________
14 MERCOSUR (Southern Common Market) is a customs union among Argentina, Brazil,
Paraguay and Uruguay founded in 1991 by the Treaty of Asunción.
15 Andean Community of Nations, a South American trade block with Bolivia, Colombia,
Ecuador and Peru, signed in 1969.
16 Greece is also considered because, on 15 January 2000, the Greek government
announced the drachma-euro exchange rate with which Greece would enter the third stage
of the EU Economic and Monetary Union (EMU) on 1 January 2001.
17 The Economic Community of West African States (ECOWAS) is a regional group of
fifteen West African countries, founded in 1975, with the signing of the Treaty of Lagos.
18 The parties of the CEFTA agreement are: Albania, Bosnia and Herzegovina, Croatia,
Macedonia, Moldova, Montenegro, Serbia and Kosovo. Former parties were Bulgaria, the
Czech Republic, Hungary, Poland, Romania, Slovakia and Slovenia, whose CEFTA
membership ended when they joined the EU.
sample average. The developed and developing countries considered in the
empirical analysis are listed in the Appendix. Finally, ε ijk is the error term, which
is assumed to be independently and identically distributed.
As previously indicated, the TAI is used to measure the technological
innovation in countries i and j. Then, TAIi and TAIj are the technological variables
measuring technological innovation in the exporting and importing countries,
respectively. 19 To analyse the individual effect of the different dimensions that
make up the TAI on international trade, four additional regressions were derived
from Equation (2) where we substitute each TAI dimension for the full index. 20 In
order to investigate the existence of a non-linear relationship between
technological innovation and international trade, two additional terms are included
( )
in the model: (TAI i ) and TAI j . Again, to investigate the role of each
2 2
dimension of the TAI in the innovation-trade relation, this index is decomposed

into its four dimensions, and the model is re-estimated with the two additional
terms in each dimension. For the regressor diffusion of recent innovations, one of
the indicators is exports of high technology and medium technology products.
Since all the regressors explain the LHS exports, the collinearity concern is
plausible. In order to investigate the presence of multicollinearity, a correlation
matrix is built among all the explanatory variables included in the model, and any
significant relations are found among them. The simple correlation coefficients are
always below 60%. Moreover, the variance inflation factor (VIF) is obtained.
Tolerance, defined as 1/VIF is used to check the degree of collinearity. A tolerance
value lower than 0.1 means that the variable could be considered a linear
combination of other independent variables. The tolerance values for the variables
used in the estimated gravity model are always higher than 0.1. 21
_________________________
19 In Márquez-Ramos (2007), a different way to add technological innovation in the trade
equation was considered: the variable included was the technological distance between
trading partners (Filippini and Molini 2003). A negative correlation between this new
variable and the export flows was found.
20 Including the four components of the TAI and the synthetic index (i.e., the average of
the four components) in the same specification would cause important collinearity
problems.
21 A full non-linear specification, based on a polynomial function for not only the TAI but
also the other variables, is beyond the scope of this paper, but could be considered a first
step in this direction.
Equation (1) is first estimated using Ordinary Least Squares (OLS), the Pseudo
Poisson Maximum Likelihood (PPML) method and the Harvey methodology. The
Harvey model and the PPML estimator are used as alternative options to control
for heteroscedasticity. The PPML method is employed following the observations
by Santos-Silva and Tenreyro (2006) in that the standard empirical methods are
not appropriate to estimate gravity equations. Log-linearisation leads to
inconsistent estimates when observations with heteroscedasticity are present. In
addition, the zero values in the dependent variable cannot be considered in the
OLS estimation. Moreover, Santos-Silva and Tenreyro (2006) stated that the OLS
estimation of the gravity model exaggerates the role of geographical proximity and
links. Their results suggest that heteroscedasticity is responsible for the main
differences. To address these estimation problems, these authors proposed using
the PPML method.
The Harvey model controls for multiplicative heteroscedasticity (Harvey
1976), whereas the PPML method is robust to some kinds of model
misspecification, such as heteroscedastic errors. Harvey (1976) proposed a general
formulation of a regression model with multiplicative heteroscedasticity, which is
more attractive than the usual “additive” model in which the variance of the
disturbances is assumed to be related to a linear combination of the known
variables.
Causality in this paper is assumed to run from technological innovation to
exports; however, higher exports could also foster technological innovation.
Poldahl and Gustavsson-Tingvall (2005) analysed whether an inverted “U”
relationship exists between competition and technological innovation. These
authors used the Herfindahl Index as a measure of the degree of competition in the
market. Their results show that breaking up monopolies leads to an increase of
R&D expenditure in Swedish companies, whereas further increases in competition
leads to lower R&D investment. Although the existence of endogeneity in
technological innovation has been analysed using aggregated trade data (Martínez-
Zarzoso and Márquez-Ramos, 2005), further research is required to analyse the
existence of endogeneity and inverse causality between technological innovation
and sectoral trade. Thus, Equation (2) is also estimated using instrumental
variables (IV) in order to check the exogeneity assumption concerning
technological innovation. If this is true, the IV estimates should be similar to the
OLS estimates. To estimate by IV, the use of a set of instrumental variables that
are correlated with technological innovation in countries, but not with the error
term of Equation (2), would be desirable. Average research and development
expenditure (% of the GDP) in the period 1994–1998 has been selected as an
instrument based on Eaton and Kortum (2002). These authors suggested that a
country’s level of technology is related to its stock of past research effort.
5.2 Technological Innovation and International Trade

Table 1 shows the main results obtained for the technological innovation variables
considered. 22 The first part of Table 1 presents the results for the overall TAI
index, while the rest of the table shows the results for the disaggregated index
dimensions. We restrict attention initially to columns (1)–(4), which show the
results obtained when using different estimation methods, namely the OLS,
PPML, Harvey and IV models. The above-mentioned endogeneity of
technological innovation in the gravity equation is confirmed by the results of a
Hausman test 23 that indicates rejection of the null hypothesis of exogeneity. We
find a significant difference between the OLS and the IV coefficients, indicating
that OLS is an inconsistent estimator of the estimated model, whereas the IV
estimator is consistent. The inverted U-Theil criterion is used to compare models
with different scales in the dependent variable (the PPML uses exports instead of
the logarithm of exports as the dependent variable). Higher values of the inverted
U-Theil indicate that one particular model is preferred. According to this criterion,
the IV model estimations show a similar performance to the OLS and Harvey
methods, and a better performance than the Poisson estimations in terms of
forecasting accuracy. 24 Based on these two tests, the IV method is preferred to the
rest.
_________________________
22 The results of the other explanatory variables are available upon request from the
authors.
23 The purpose of this test is to indicate whether there is correlation between technological
innovation and the error term in the augmented gravity model. The null hypothesis is that
there is no correlation and, therefore, that the OLS provides consistent and efficient
estimates.
24 This result has to be interpreted with caution because when the errors are
heteroscedastic, and the forecasted value of the log-dependent variables has to be
calculated by also using second-order conditions. Only when the appropriate
The IV results obtained for the importer’s TAI show that the effect of
technological innovation on exports is magnified for higher achievements of
technological innovation in the importing country. This indicates a non-linear
relationship between trade and technological innovation. 25
Regarding the exporter’s TAI, and according to the results of the preferred
instrumental variables, exports increase with technological innovation (measured
with the overall index) at a constant rate, and the relationship is linear in this
case. 26 Therefore, for those countries classified as Potential Leaders or
Technological Leaders, the effect of technological innovation (the TAI index) on
exports is always positive and increases with technological improvements for
technological innovation in the importing country.
The main difference between our results and those of Estrada et al. (2006) 27 is
that these authors focused on the decision to export to a given market (their
dependent variable is the probability to export), whereas we centre on the decision
of how much to export to a given market (the value exported that is related to the
creation and sustenance of competitive advantages). 28 Hence, our results deal with
a different aspect of exports and complement rather than compete with these
authors’ results.
Regarding the magnitude of the estimates of the fourth column of Table 1 (IV),
an increase of 10 percentage points in the exporter’s TAI index, the equivalent to a
change from the level of Brazil (0.306) to the level of Portugal (0.418), is
associated with an increase in exports of 8.3 percent. In this case the relationship is
_________________________
retransformation of the log-dependent variables is done can the inverted U-Theil obtained
for PPML be compared with that obtained with the other methods.
25 When the OLS, PPML and Harvey methods are in use, the index falls into the
increasing part of a “U-shaped” relationship between technological innovation and export
elasticity.
26 Export elasticity also increases with technological innovation when the exporter’s TAI
values are higher than 0.33 in the OLS regressions, 0.42 in the PPML regressions, and 0.35
in the Harvey regressions.
27 Estrada et al. (2006) also do a non-linear specification.
28 According to Zahra and George (2002), a firm’s potential absorptive capacity allows it
to sustain its competitive advantage, whereas a firm’s realised absorptive capacity allows
its creation. Similarly, potential and realised absorptive capacities may influence the
creation and sustenance of the competitive advantage at a national level.
Table 1. The Effect of Technological Innovation on International Trade
a
OLS PPML Harvey IV IV_65 IV_13
(1) (2) (3) (4) countries countries
(5) aggregated
(6)
Exporter’s TAI –1.69*** –8.29*** –2.03*** 0.83*** 13.38*** 10.95***
(–4.84) (–4.23) (–6.12) (15.23) (9.03) (3.10)
Exporter’s TAI (square) 2.56*** 9.75*** 2.90*** – –7.43*** –9.38***
(7.27) (4.81) (8.67) (–4.86) (–2.71)
Importer’s TAI 0.07 1.74*** –0.09 0.54*** 10.26*** 1.51**
(1.21) (9.44) (–1.64) (6.92) (7.52) (2.37)
Importer’s TAI (square) 1.05*** – 1.27*** 0.31*** –7.33*** –
(11.43) (14.82) (2.91) (–5.10)
Exporter’s creation of technology –0.22** –2.63*** 0.05 –0.21* 9.24*** 2.69**
(–2.15) (–5.75) (0.54) (–1.94) (13.88) (2.26)
Exporter’s creation of technology (square) 1.40*** 6.27*** 0.92*** 1.41*** –11.43*** –3.32*
(8.61) (7.77) (5.91) (8.46) (–8.55) (–1.80)
Importer’s creation of technology –0.81*** –0.77 –0.77*** –0.86*** 5.72*** 3.31***
(–6.91) (–1.61) (–6.85) (–7.29) (7.76) (3.06)
Importer’s creation of technology (square) 2.51*** 2.63*** 2.45*** 2.54*** –8.06*** –4.04**
(10.54) (3.33) (10.68) (10.63) (–5.36) (–2.00)
Exporter’s diffusion of old innovations –6.06*** –19.17*** –4.53*** –6.82*** –7.73*** 1.81***
(–9.18) (–10.65) (–7.41) (–5.02) (–3.39) (3.38)
Exporter’s diffusion of old innovations 4.13*** 11.66*** 3.19*** 4.52*** 9.18*** –
(square)
(10.35) (10.49) (8.63) (5.55) (6.28)
Importer’s diffusion of old innovations –1.36*** –0.36 –1.18*** –0.89*** –2.36 –1.26*
(–23.40) (–0.66) (–21.61) (–9.04) (–1.36) (–1.84)
Importer’s diffusion of old innovations 1.47*** 0.94** 1.33*** 0.97*** 3.94*** 2.43***
(square)
(25.26) (2.15) (24.54) (11.52) (3.45) (3.61)
Exporter’s diffusion of recent innovations 0.65*** 3.25*** 0.51*** 0.95*** 7.29*** 1**
(4.95) (3.60) (10.62) (6.42) (11.46) (1.99)
Exporter’s diffusion of recent innovations –0.26** –3.68*** – –0.69*** –4.09** –
(square)
(–2.05) (–3.67) (–4.83) (–5.27)
Importer’s diffusion of recent innovations 1.00*** 2.25*** 0.85*** 1.03*** 3.81*** 1.38***
(12.93) (4.86) (11.83) (11.18) (6.06) (4.02)
Importer’s diffusion of recent innovations –0.37*** –1.04* –0.21** –0.57*** –2.09*** –
(square)
(–3.54) (–1.68) (–2.16) (–4.86) (–2.61)
Table 1 continued
a
OLS PPML Harvey IV IV_65 IV_13
(1) (2) (3) (4) countries countries
(5) aggregated
(6)
Exporter’s human skills 0.89*** 4.37*** 0.11*** 1.91*** 11.19*** 6.49***
(5.36) (3.36) (3.81) (10.06) (10.94) (3.50)
Exporter’s human skills (square) –0.73*** –4.82*** – –1.65*** –6.21*** –5.17***
(–4.96) (–3.75) (–9.75) (–6.98) (–3.21)
Importer’s human skills –0.06 2.46*** –0.16** 0.17 6.89*** 3.54***
(–0.91) (4.98) (–2.45) (1.35) (7.05) (3.25)
Importer’s human skills (square) 0.47*** –1.71*** 0.57*** 0.19* –4.22*** –1.96*
(6.21) (–3.58) (7.95) (1.67) (–4.76) (–1.93)
1-U Theil 0.82 0.56 0.82 0.82 0.85 0.91
R-squared 0.25 0.35 0.24 29 0.24 0.76 0.86
Number of observations 149,985 149,992 149,985 123,250 1,895 799
[ ]
Notes: aWhen the Poisson model is E Yi xi = exp[β1 xi1 + β 2 xi 2 + β 3 ] , it is possible to interpret β1
[ ]
as a semi-elasticity: ∂ log E Yi xi ∂ xi1 = β1 .
***, **, * indicate significance at 1%, 5% and 10%, respectively, t-statistics are in parentheses. The
dependent variable is the natural logarithm of exports in value (current US$). The OLS and IV
estimation uses White’s heteroscedasticity-consistent standard errors. In those cases where the term
of innovation technology squared is found to be non-significant, a linear relationship is estimated.
Source: Own calculations based on the constructed database (see Section 4).
linear according to the IV results, whereas in the case of the importer’s TAI index,
the effect of technological innovation on exports increases with higher
achievements of technological innovation in the importing country. For example,
if we consider the average value of the TAI for importers (0.36), an increase in 10
percentage points in the importer’s TAI index increases exports by 7.63
(10x[0.54+2x0.36x0.31]) percent.
_________________________
29 This is the VWLS (variance-weighted least squares) R2, which is obtained by using the
inverse of the estimated variances in the heteroscedastic model as weights in the
corresponding regression model.
Figure 1. The TAI Effect on Exports. IV Estimation
1,0
0,8
Exporter's TAI
Importer's TAI
0,6
Ln(X)
0,4
0,2
0,0
0,0 0,1 0,2 0,3 0,4 0,5 0,6 0,7 0,8 0,9
TAI
Figure 1 shows the effect of technological innovation on export elasticities for

different values of the TAI index when estimating by the IV method.
Concerning the different TAI dimensions, we firstly refer to the results ob-
tained for the two TAI dimensions related to the above-mentioned concept of
potential absorptive capacity that can be decomposed into acquisition and
assimilation capabilities. The results show that the creation of technology
dimension, a proxy for the acquisition capacity, ranges in the growing part of the
“U” (see Figure 2). The minimum value of this variable in the exporting country is
equal to 0.074 according to the IV estimates. With this value, the model mainly
predicts that the greater the creation of technology, the more the exports. For the
second dimension, diffusion of old innovations, related to the assimilation
capability, the results show a U-shaped relationship between the elasticity of
exports and this dimension. 30 This relationship becomes considerably more
_________________________
30 The components of the index diffusion of old innovations are expressed in logarithms to
ensure that as the level of the index increases, its contribution to the composed index
decreases. Although a “U-shaped” relationship between technological innovation and
exports is found when applying any of the four estimation methodologies considered, the
Figure 2. The Creation of Technology Effect on Exports. IV Estimation
2,0
1,5 Exporter's creation of

technology
Importer's creation of
1,0 technology
Ln(X)
0,5
0,0
0,0 0,1 0,2 0,3 0,4 0,5 0,6 0,7 0,8 0,9
-0,5
Creation of technology
pronounced in the exporter’s case. The minimum value of the diffusion of old
innovations variable in the exporting country is 0.75 when estimating by IV. 31
This result indicates that there is a minimum threshold up to which exports
increase with higher levels of diffusion of old innovations. In relation to the
realised absorptive capacity measures, the results obtained for the diffusion of
recent innovations, a proxy for the transformation capability, show that there is an
inverted U-shaped relationship between this variable and exports according to the
IV estimates. The maximum of this TAI component in the exporter’s case is found
to be 0.68 (Figure 3). Exporters with an intermediate achievement of diffusion of
recent innovations show a higher increase in exports than those countries with a
low or a very high level. Otherwise the results for importers reveal that the
diffusion of recent innovations dimension mainly ranges in the growing part of the
inverted “U”. Then, a more developed transformation capability, which is a
component of realised absorptive capacity, increases exports to a higher extent.
_________________________
results are not shown graphically since an important part of the index falls in the negative
values of lnX.
31 Similar values are obtained with the other methods: 0.73, 0.82 and 0.71 when
estimating by the OLS, PPML and Harvey methods, respectively.
Figure 3. The Diffusion of Recent Innovations Effect on Exports. IV Estimation
1,0
0,8
Exporter's diffusion of
recent innovations
0,6 Importer's diffusion of
Ln(X)
recent innovations
0,4
0,2
0,0
0,0 0,1 0,2 0,3 0,4 0,5 0,6 0,7 0,8 0,9
Diffusion of recent innovations
Finally as regards to the human skills dimension, a proxy for the exploitation
capacity, which is the second component of realised absorptive capacity, the IV
results show that the coefficient of the human skills dimension in the importing
country ranges in the growing part of a “U” relationship between this dimension
and exports (Figure 4). These results indicate that the higher the trading partners’
human skills (realised absorptive capacity), the higher the positive effect of this
variable on trade. With respect to the exporter’s human skills, an inverted U-
shaped relationship is found when using IV (the maximum equals 0.58). 32
The second hypothesis states that developing countries may need a minimum
technological level to obtain trade gains derived from higher technological
innovation achievements. To test this hypothesis, Equation (2) is estimated for
developed and developing importing countries separately. The obtained results,
according to the IV estimation (first part of Table 2), show that when the importer
_________________________
32 For this dimension, different results were obtained according to the estimation
technique used. An inverted “U-shaped” relationship was also observed when using OLS
(the maximum equals 0.6) and PPML (the maximum equals 0.45); the relationship between
this variable and trade was linear when estimating by the Harvey method.
Figure 4. The Human Skills Effect on Exports. IV Estimation
1,0
Exporter's human skills

0,8
Importer's human skills
0,6
Ln(X)
0,4
0,2
0,0
0,0 0,1 0,2 0,3 0,4 0,5 0,6 0,7 0,8 0,9
Human skills
is a developed country, technological innovation has a positive effect on exports

which is magnified for the higher levels of the TAI. As found in the analysis
performed for the full country-sample, a U-shaped relationship is found between
relationship is found between realised absorptive capacity and exports. Otherwise,
when the importer is a developing country, a U-shaped relationship is found
potential absorptive capacity and exports, whereas an inverted U-shaped between
importer’s creation of technology and exports and between importer’s diffusion of
recent innovations and exports. The minimum value of developing importer’s
creation of technology and diffusion of recent innovations is equal to 0.09 and
0.07, respectively. With this value, the model mainly predicts that the greater the
acquisition and transformation capabilities in developing importing countries, the
higher the increase on trade. Furthermore, an inverted U-shaped relationship is
found between importer’s diffusion of old innovations and exports and between
importer’s human skills and exports. The maximum value of developing
importer’s diffusion of old innovations and human skills are 0.79 and 0.35,
respectively. Up to this value, the model mainly predicts that the greater the
assimilation and exploitation capabilities in developing importing countries, the
higher the increase on trade. These results show that the development of both
Table 2. The Effect of Technological Innovation on International Trade. Country
and Sector Heterogeneity
IV estimation Technological Technological
innovation innovation squared
By Type of Importer:
Importer is a developed country
Exporter's TAI 2.3*** –0.92*
(3.71) (–1.71)
Importer's TAI –0.02 0.33**
(–0.16) (2.17)
R-squared 0.23
Number of observations 90,639
Importer is a developing country
Exporter’s TAI –3.74*** 4.41***
(–4.7) (5.54)
Importer's TAI 0.32 1.42**
(1.38) (2.24)
R-squared 0.17
By Type of Product:
Differentiated a
Exporter's TAI 8.99*** –8.22***
(16.34) (–14.80)
Importer's TAI 0.61*** 0.28**
(6.64) (2.21)
R-squared 0.26
Referenced
Exporter's TAI –5.17*** 6.19***
(–6.33) (7.57)
Importer's TAI 0.71*** –
(9.82)
R-squared 0.23
Table 2 continued
IV estimation Technological Technological
innovation innovation squared
Homogeneous
Exporter's TAI –14.59*** 14.77***
(–7.04) (7.08)
Importer's TAI 0.38 0.86*
(0.94) (1.67)
R-squared 0.12
Notes: ***, **, * indicate significance at 1%, 5% and 10%, respectively; t-statistics are in
parentheses. The dependent variable is the natural logarithm of exports in value (current US$). The
IV estimation uses White’s heteroscedasticity-consistent standard errors. In those cases where the
term of innovation technology squared is found to be non-significant, a linear relationship is
estimated. aSimilar conclusions are drawn for high-technology goods, although the coefficients
obtained are higher than those obtained for differentiated goods.
potential and realised absorptive capacities in technologically marginalised

developing countries would increase their participation in international trade. 33
Next, we test the third hypothesis which states that the effects of technological
innovation on exports should be greater in magnitude for differentiated products
than for homogeneous products. Equation (2) is estimated for exports of
differentiated, referenced and homogeneous goods. Table 2 shows the obtained
results for the overall index for IV, which shows in most cases a non-linear
relationship between technological innovation and trade.
We can compare the results in Table 2 with column (4) in Table 1. Whereas
the results of the effect of the importer’s TAI on trade are similar for all categories
of goods, the effect of the exporter’s TAI differs for differentiated products and for
the rest. For differentiated goods, the exporter’s TAI shows an inverted U-shaped
relationship, whereas a U-shaped curve is found for reference-priced goods and
homogeneous goods. While technological improvements have a higher effect on
exports of differentiated goods for the intermediate levels of technological
_________________________
33 The results of the different TAI dimensions are available upon request from the authors.
achievements, the effect on exports for referenced and homogeneous goods shows
the opposite pattern as it is found to be higher for very high levels of technological
achievement. With respect to the different components of the TAI index,
exporter’s acquisition capability presents a U-shaped relationship, whose
minimum value is 0.08. Therefore, the model mainly predicts that the greater the
acquisition capability, the higher the increase on trade of differentiated goods.
Concerning exporter’s transformation and exploitation capabilities, both have a
greater positive effect on exports of differentiated goods for the intermediate levels
of technological achievements, which is consistent with the interpretation that the
more experience in techniques gained by producing goods that embody a higher
technological content, the more the exports. 34
5.3 Robustness Checks

As a first robustness check, we performed the same analysis for aggregated trade
flows using a larger sample of countries. We used a 65-country sample which
uncovers the 65-country sample selected in Márquez-Ramos (2007) by using data
for 1999. The last two columns of Table 1 show the obtained results when
estimating Equation (2) for both the 65-country and the 13-exporter (aggregated)
samples. The results show that the coefficients obtained for technological
innovation are higher than those obtained when using disaggregated data. As in the
disaggregated analysis, a U-shaped relationship was found between exports and
the diffusion of old innovations, whereas an inverted U-shaped relationship was
seen between exports and the diffusion of recent innovations, and between exports
and human skills. However, we observe reversal of signs for the variables related
to creation of technology. In columns (5) and (6) exporter’s and importer’s
creation of technology show an inverted U-shaped relationship with aggregated
exports. This fact is most probably due to aggregation bias and indicates the
importance of using disaggregated trade data in empirical analysis. Creation of
technology is having a different effect for each category of goods and therefore we
have to rely on the results obtained in column (4).
As a second robustness check, the model specification was tested with both the
disaggregated 13-exporter and the aggregated 65-country sample. A model
_________________________
34 The results of the different TAI dimensions are available upon request from the authors.
specification error may occur when one or more relevant variables is/are omitted
from the model, or when one or more irrelevant variables is/are included in the
model. Model specification errors can substantially affect the estimated
coefficients of regression. The linktest command in STATA was used, and the
Ramsey test was done to test for specification errors. 35 We find that the Ramsey
test results indicate that our estimates may suffer from an omitted variable bias.
However, this bias most likely is related to trade cost variables and not the
coefficients of the target variable, technological innovation.
6 Conclusions
This paper aims to provide empirical evidence on the relationship between
technological innovation and international trade. In order to do so, technological
innovation is understood as absorptive capacity that is decomposed into potential
and realised absorptive capacities. At a national level, potential absorptive capacity
is composed of the acquisition (creation of technology) and assimilation (diffusion
of old innovations) capabilities, which provides flexibility to change and allows
the sustenance of competitive advantage, whereas realised absorptive capacity is
composed of the transformation (diffusion of recent innovations) and exploitation
(human skills) capabilities, which allows the creation of competitive advantage.
The Technological Achievement Index (TAI) and its four components are used in
the empirical analysis since they are considered suitable measures of technological
_________________________
35 The linktest is based on the idea that if a regression is properly specified, then it should
not be possible to find any additional independent variables that are significant, other than
by chance. The linktest creates two new variables, a variable of the prediction (_hat) and a
variable of the square prediction (_hatsq). The model is then refitted using these new
variables as predictors. The former should be significant since it is the predicted value,
unlike the latter because, if the model is correctly specified, the squared predictions should
not have much explanatory power.
In a first step, the linktest is calculated for the disaggregated and aggregated analyses
where both the variable of prediction (_hat) and the variable of square prediction (_hatsq)
are significant. As a second step, the hypothesis that the model has no omitted variables is
rejected with the Ramsey RESET Test.
innovation including acquisition, assimilation, transformation and exploitation
capabilities.
Our findings indicate a positive and, in most cases, non-linear effect of
technological innovation on export performance. Additionally, the results obtained
show the existence of a non-linear relationship between trade and all the
technological dimensions considered. Firstly, creation of technology fosters
international trade in all countries, independently of its achievement. Secondly, a
U-shaped relationship is observed between diffusion of old innovations and
exports. Thirdly, and in the case of realised absorptive capacity measures
(diffusion of recent innovations and human skills), an inverted U-shaped
relationship with exports is observed. Fourthly, the non-linear relationship also
holds in developed and developing countries, as well as in different sectors. Our
results are consistent with the “learning-by-doing” and the “absorptive capacity”
concepts.
A natural extension of this research would be to use a panel dataset to fully
account for unobserved country heterogeneity and to study the dynamics of the
relationship between trade and technological innovation. The question of how the
causality relationship goes from trade to technological innovation in a non-linear
framework is still open and requires further research.
Acknowledgement We would like to thank Katharine Rockett, Joan Martín-

Montaner and two anonymous referees for their very helpful comments and
suggestions. Financial support from both the Spanish Ministry of Public Works
and the Spanish Ministry of Science and Technology is gratefully acknowledged
(P21/08 and SEJ 2007-67548).
Appendix
Table A.1. Variable Descriptions and Sources of Data
Variable Description Source
Value of exports from the 13 selected countries
Xijk : Exports from i to j of the
to 167 countries, in thousands of US dollars in Feenstra et al. (2005)
commodity k
the year 2000
Yi : Exporter’s income Exporter’s GDP, PPP (current international $) World Bank (2005)
Yj : Importer’s income Importer’s GDP, PPP (current international $) World Bank (2005)
Dummy variable = 1 if the trading partners share

Adjij : Adjacency dummy CEPII (2006)
a common border, 0 otherwise.
Dummy variable = 1 if the exporting country is

Landi : Landlocked dummy CEPII (2006)
landlocked, 0 otherwise.
Dummy variable = 1 if the importing country is

Landj : Landlocked dummy CEPII (2006)
landlocked, 0 otherwise.
Dummy variable = 1 if the trading partners are

MERC dummy
members of Mercosur, 0 otherwise

NAFTA dummy
members of NAFTA, 0 otherwise

CAN dummy
members of CAN, 0 otherwise

EU dummy
members of the European Union, 0 otherwise

EMU dummy members of the Economic and Monetary Union,
0 otherwise

ECOWAS dummy
members of ECOWAS, 0 otherwise

CEFTA dummy
members of CEFTA, 0 otherwise
Great circle distances between the most im-

Distij : Distance CEPII (2006)
portant cities in trading partners
Dummy variable = 1 if the trading partners

Langij : Language dummy CEPII (2006)
share the same official language, 0 otherwise.
Table A1 continued
Variable Description Source
Dummy variable = 1 if the trading partners
Colonyij : Colony dummy CEPII (2006)
have ever had a colonial link, 0 otherwise.
UNDP (2001),
TAIi : Exporter’s TAI Technological variable
author’s calculations
UNDP (2001),
TAIj : Importer’s TAI Technological variable
author’s calculations
WITS (2006)
http://wits.worldbank
Tariffsik Effectively applied rates in sector k .org/witsnet/StartUp/
Wits_Information.as
px
Doing Business
TCi: Exporter’s transport costs Transport costs (US$ per container)
(2006)
Doing Business
TCj: Importer’s transport costs Transport costs (US$ per container)
(2006)
Dummy variable = 1 when commodity is a high-

High-tech dummy
technology commodity, 0 otherwise
Jon Haveman's
International Trade
Data web page
http://www.macalest
Dummy variable = 1 when a commodity k is
er.edu/research/econ
Homk dummy homogeneous, according to Rauch classification
omics/PAGE/HAVE
(1999), 0 otherwise
MAN/Trade.Resourc
es/TradeData.html
Dummy variable = 1 when a commodity k is Jon Haveman's

Refk dummy reference-priced, according to Rauch classification International Trade
(1999), 0 otherwise Data webpage
Average R&D expenditure (% of

GDP) during the period 1996– TAI instrument World Bank (2005)
1999
Table A.2. The Technology Achievement Index
Technological Leaders Dynamic Technological Adopters
1 Finland 0.745 43 Uruguay 0.339
2 United States 0.733 44 South Africa 0.335
3 Sweden 0.704 45 Thailand 0.330
4 Japan 0.697 46 Trinidad and Tobago 0.323
5 Rep. of Korea 0.664 47 Panama 0.317
6 Luxembourg 0.634 48 Brazil 0.306
7 Netherlands 0.628 49 China 0.293
8 United Kingdom 0.604 50 Philippines 0.292
9 Singapore 0.595 51 Bolivia 0.270
10 Switzerland 0.595 52 Colombia 0.270
11 Canada 0.589 53 Peru 0.265
12 Australia 0.587 54 Jamaica 0.256
13 Germany 0.581 55 Iran 0.253
14 Norway 0.580 56 Paraguay 0.248
15 Ireland 0.564 57 Tunisia 0.248
16 Belgium 0.551 58 El Salvador 0.248
17 New Zealand 0.548 59 Ecuador 0.247
18 Denmark 0.547 60 Dominican Republic 0.238
19 Austria 0.542 61 Syrian Arab Republic 0.233
20 Iceland 0.540 62 Egypt 0.228
21 France 0.534 63 Algeria 0.212
22 Israel 0.513 64 Zimbabwe 0.210
65 Indonesia 0.202
Potential Technological Leaders
66 Honduras 0.199
23 Spain 0.479
67 Sri Lanka 0.194
24 Italy 0.470
68 India 0.191
25 Czech Republic 0.462
26 Hungary 0.461 Technologically Marginalised
27 Slovenia 0.456 69 Nicaragua 0.175
28 Hong Kong, China 0.453 70 Pakistan 0.156
29 Slovakia 0.444 71 Senegal 0.148
30 Greece 0.436 72 Ghana 0.127
31 Portugal 0.418 73 Kenya 0.116
32 Bulgaria 0.408 74 Nepal 0.070
33 Poland 0.402 75 Tanzania 0.066
34 Malaysia 0.392 76 Sudan 0.058
35 Croatia 0.388 77 Mozambique 0.053
36 Cyprus 0.384
37 Mexico 0.383
38 Argentina 0.376
39 Rumania 0.365
40 Turkey 0.355
41 Costa Rica 0.354
42 Chile 0.353
Notes:
Technological Leaders (above 0.5). This group includes countries with a high capability to
create and sustain technological innovation.
Potential Technological Leaders (from 0.35 to 0.49). This group includes countries that
have invested in all four dimensions, but have been less innovative.
Dynamic Technological Adopters (from 0.19 to 0.34). The countries in this group attempt
to accomplish growth in both their technology content and their level of development.
Technologically Marginalised (below 0.19). The last group consists of marginalised
countries: many African countries belong to this block. It is difficult for them to gain
access even to the oldest technologies and a low technological level is associated with low
income levels. The relative position is not particularly meaningful due to the lack of
adequate data.
Developed countries: Argentina, Australia, Austria, Belgium, Canada, Chile, Costa Rica,
Croatia, Cyprus, Czech Republic, Denmark, Finland, France, Germany, Greece, Hong
Kong, Hungary, Iceland, Ireland, Israel, Italy, Japan, Rep. of Korea, Luxembourg,
Malaysia, Mexico, Netherlands, New Zealand, Norway, Poland, Portugal, Singapore,
Slovak Republic, Slovenia, South Africa, Spain, Sweden, Switzerland, Trinidad and
Tobago, United Kingdom, United States.
Developing countries: Algeria, Bolivia, Brazil, Bulgaria, China, Colombia, Dominican
Republic, Ecuador, Egypt, El Salvador, Ghana, Honduras, India, Indonesia, Iran, Jamaica,
Kenya, Mozambique, Nepal, Nicaragua, Pakistan, Panama, Paraguay, Peru, Philippines,
Romania, Senegal, Sudan, Sri Lanka, Syrian Arab Republic, Tanzania, Thailand, Tunisia,
Turkey, Uruguay, Zimbabwe.
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Vol. 4, 2010-11 | April 8, 2010 | http://www.economics-ejournal.

The Effect of Technological Innovation on

Abstract In this paper, the effect of technological innovation on sectoral exports is

International trade theory highlights the importance of technological innovation in

4 Data, Sources and Variables

( actual value − observed min value )

ln X ijk = α 0 + α1 ⋅ ln Yi + α 2 ⋅ ln Y j + α 3 ⋅ Adj ij + α 4 ⋅ Land i + α 5 ⋅ Land j +

+ α 20 ⋅ ln Tariffs ik + α 21 ⋅ ln TC i + α 22 ⋅ ln TC j + α 23 ⋅ high _ tech k + α 24 ⋅ hom k +

where ln denotes natural logarithms; Xijk denotes the value of exports of

dimension of the TAI in the innovation-trade relation, this index is decomposed

5.2 Technological Innovation and International Trade

Figure 1 shows the effect of technological innovation on export elasticities for

1,5 Exporter's creation of

Diffusion of recent innovations

Exporter's human skills

is a developed country, technological innovation has a positive effect on exports

potential and realised absorptive capacities in technologically marginalised

5.3 Robustness Checks

Acknowledgement We would like to thank Katharine Rockett, Joan Martín-

Dummy variable = 1 if the trading partners share

Dummy variable = 1 if the exporting country is

Dummy variable = 1 if the importing country is

Dummy variable = 1 if the trading partners are

Dummy variable = 1 if the trading partners are

Dummy variable = 1 if the trading partners are

Dummy variable = 1 if the trading partners are

Dummy variable = 1 if the trading partners are

Dummy variable = 1 if the trading partners are

Dummy variable = 1 if the trading partners are

Great circle distances between the most im-

Dummy variable = 1 if the trading partners

Dummy variable = 1 when commodity is a high-

Dummy variable = 1 when a commodity k is Jon Haveman's

Average R&D expenditure (% of

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