Proximity and Horizontal Policies: The Backbone of Export Diversification and Complexity

Lack of a clear link between general economic fundamentals and export diversification indicators has backed the believe that diversification mostly requires heterodox/industrial policies. This paper, however, finds a strong connection between horizontal policies and export diversification by making two substantial changes to traditional identification methodologies. Noting that indices commonly used as dependent variables are exogenously determined by natural resource abundance, it focuses instead on export categories that lead to diversification. And besides including productivity-related independent variables, it adds gravity equation and labor costs related variables, in line with international trade theory. Income per capita is introduced to control for endogeneity and removed to calculate goodness of fit. Proximity to other economies explains close to a third of cross-country heterogeneity of dependent variables, and four quarters when adding horizontal policies (mainly governance, education, infrastructure, and trade policy openness). New role models of diversification policies arise including Australia, Chile, and New Zealand.

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