We consider trade between two countries of unequal size, where the
creation of new intermediate inputs occurs in both. We assume that the
knowledge gained from R&D in one country does not spillover to the other.
Under autarky, the larger country would have a higher rate of product creation.
When trade occurs in the final goods, we find that the smaller country has its
rate of product creation stowed, even in the long run. In contrast, the larger
country enjoys a temporary increase in its rate of R&D. We also examine the
welfare consequences of trade in the final goods, which depend on whether the
intermediate inputs are traded or not.
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