Research Discussion Paper – RDP 2004-11 Trade Openness: An Australian Perspective


Australia's external trade is relatively low compared with the size of its economy. Indeed, Australia's openness ratio (exports plus imports as a proportion of GDP) in 2002 was the third-lowest among the 30 OECD countries. This paper seeks to understand Australia's low openness by analysing the empirical determinants of aggregate country trade. We begin by estimating a standard gravity model of bilateral trade. Although the model appears to fit the bilateral data very well, it does a relatively poor job at fitting countries' aggregate trade levels, with different methodologies sometimes providing highly conflicting results.

The focus of the paper is an equation for country openness. Our equation explains a substantial amount of the variation in how much countries trade using a small number of explanatory variables. We find that the most important determinants of openness are population and a measure of distance to potential trade partners. Countries with larger populations trade less, as do countries that are relatively more remote. Furthermore, after controlling for trade policy there is little evidence of a positive correlation between openness and economic development.

While gravity models suggest Australia trades much more than expected, the openness equation suggests that its level of trade is relatively close to what would be expected. The most important factors in explaining Australia's low openness ratio are its distance to the rest of the world, and to a lesser extent its large geographic size.

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