Trade Costs and Markups∗

We explore the effects of trade costs on markups by building a new model consistent with three stylized facts: exporters charge higher markups, markups increase when starting to export, and domestic and foreign sales are negatively correlated, which suggests decreasing returns. We calibrate the model to Chilean data, and simulate reductions in trade costs. Most markups increase along the intensive margin, and unambiguously decline along the extensive margin. This follows from prices adjusting less than marginal costs, which increase with output but decline as trade costs fall, resulting in pro-competitive effects on new exporters, but anti-competitive effects for incumbent exporters. JEL classification: F12; F17