Product space and the development of nations: A model of product diversification

Hidalgo et al. (2007), Hidalgo and Hausmann (2009), and Hausmann and Hidalgo (2011) propose an outcome-based product space in which development traps can emerge due to low connectivity between products and countries' lack of productive capabilities. A recent stream of research suggests that this product space can be used as an instrument to guide public policy. To assess the potential effects of these policies on an economy's export performance, and on the ones of its competitors, we build a micro-founded simulation model of the evolution of countries' positions on the product space. We find that export subsidies and polices aiming at improving firm's innovation capabilities can be effective tools for increasing a country' export performance; however, this increase occurs at the expense of competing countries, as they support unpredictable changes in the variety of their exports.