Measuring quality, willingness to pay and selling capacity at a country-product-destination level using aggregate trade data

This paper describes a methodology to identify different components of external competitiveness using readily accessible, aggregate trade and macroeconomic data. Building on demand system with quadratic preferences, asymmetric varieties and heterogeneous consumers, it is shown how to use trade data to identify quality at a country-product level and willingness to pay and selling capacity at a country-product-destination level. These indicators of external competitiveness can be used to complement the existing ones, mostly based on symmetric preferences with constant elasticity of substitution, to refine our understanding of the determinants of a country's trade balance, which is one of the main components of the current account. An example of the type of analysis that can be performed with these indicators is illustrated focusing on two EU countries recently experiencing diverging trajectories in terms of external competitiveness, Latvia and Finland.