CHAPTER 1; THE WORLD ECONOMY

CHAPTER 1; THE WORLD ECONOMY
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 1; THE WORLD ECONOMY Introduction Land area and population Income Income per capita International trade The balance of payments Dynamics and globalization Trade connections in the world economy Conclusions

International economics distinguishes between:
International Trade & the World Economy;  Charles van Marrewijk Introduction International economics distinguishes between: International monetary analysis International real analysis International Trade & the World Economy focuses on real analysis. Chapter 1 The World Economy discusses some key economic concepts, focusing on ‘important’ countries.

Land area and population
International Trade & the World Economy;  Charles van Marrewijk Land area and population

To measure the value of all goods and services we distinguish:
International Trade & the World Economy;  Charles van Marrewijk Income To measure the value of all goods and services we distinguish: GDP = Gross Domestic Product (located in a country) GNP = Gross National Product (residents of a country) GDP + net receipts of factor income = GNP To correct for the large differences in prices between countries (especially for non-traded goods and services) the United Nations International Comparison Project calculates: Purchasing Power Parity exchange rates

International Trade & the World Economy;  Charles van Marrewijk
Income GNP and GDP

Income

Income GNP in current $ and PPP $
International Trade & the World Economy;  Charles van Marrewijk Income GNP in current $ and PPP $

Income per capita

International trade Exports relative to imports
International Trade & the World Economy;  Charles van Marrewijk International trade Exports relative to imports

The value of exports can exceed the level of GDP
International Trade & the World Economy;  Charles van Marrewijk International trade The value of exports can exceed the level of GDP

The balance of payments
International Trade & the World Economy;  Charles van Marrewijk The balance of payments

Dynamics and globalization
International Trade & the World Economy;  Charles van Marrewijk Dynamics and globalization Current account surplus (% of GDP) indicator of accumulation of financial claims on the Rest Of the World (ROW).

International Trade & the World Economy;  Charles van Marrewijk Dynamics and globalization World GDP increases faster than world population

International Trade & the World Economy;  Charles van Marrewijk Dynamics and globalization World exports increase faster than world GDP

Trade connections in the world economy
International Trade & the World Economy;  Charles van Marrewijk Trade connections in the world economy

‘Importance’ of countries varies with measure used:
International Trade & the World Economy;  Charles van Marrewijk Conclusions ‘Importance’ of countries varies with measure used: Land area Russia, China, Canada Population China, India, USA GDP/GNP, current $ USA, Japan, Germany GDP/GNP, PPP $ USA, China, Japan Import/export USA, Germany, Japan/UK Surplus current account = net capital outflow GDP increases faster than population Exports increase faster than GDP Trade flows have local character Trade flows mainly between high income countries

CHAPTER 2; OPPORTUNITY COSTS
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 2; OPPORTUNITY COSTS Introduction Smith's argument for free trade Analysis of absolute cost advantage Application: Japan and the USA Problems with absolute cost advantage and the example Measuring trade advantages: the Balassa index I Conclusions

Introduction Adam Smith (1723-1790)
International Trade & the World Economy;  Charles van Marrewijk Introduction Adam Smith ( )

Smith's argument for free trade
International Trade & the World Economy;  Charles van Marrewijk Smith's argument for free trade You do not make your own clothes or shoes but buy them from your tailor or shoemaker to enjoy the benefits of increased specialization. You concentrate on producing what you do best. International trade, similarly, allows countries to concentrate on producing what they do best.

Analysis of absolute cost advantage
International Trade & the World Economy;  Charles van Marrewijk Analysis of absolute cost advantage International trade based on differences in technology assumptions 2 countries; USA and Japan 2 goods; Food and Cars 1 factor of production; labor L Constant returns to scale; CRS Labor mobility between sectors, not between countries Perfect competition No transport costs unit labor requirement = units of labor required to produce one unit of a final good By assumption this is independent of the number of laborers active in a sector (CRS), but may differ between the two countries. Let be the for good F in USA, etc unit labor requirement

International Trade & the World Economy;  Charles van Marrewijk Analysis of absolute cost advantage Ch. 2 tool: productivity table to summarize the state of technology Note that the USA is more efficient than Japan for the production of Food (requires 2 < 3 laborers), while Japan is more efficient than the USA in the production of cars (requires 6 < 8 laborers). In autarky (without international trade) both countries will produce both goods if consumers demand both Food and Cars.

International Trade & the World Economy;  Charles van Marrewijk Analysis of absolute cost advantage According to Adam Smith, both countries can gain from international trade through specialization (USA producing more food and Japan producing more cars): Suppose the USA produces 1 car less, this frees up 8 laborers. These 8 laborers can now produce 8/2 = 4 units of food To keep the production level of cars constant, Japan should make 1 car more. This requires 6 laborers. These 6 laborers could have made 6/3 = 2 units of food. Conclusion: USA Japan change world prod. production of cars: production of food: The extra production represents gains from trade

Application: Japan and the USA
International Trade & the World Economy;  Charles van Marrewijk Application: Japan and the USA This single observation on productivity and international trade is in accordance with Adam Smith’s prediction.

Problems with absolute cost advantage and the example
International Trade & the World Economy;  Charles van Marrewijk Problems with absolute cost advantage and the example Not all exports behave in accordance with absolute advantage

Measuring trade advantages: the Balassa index I
International Trade & the World Economy;  Charles van Marrewijk Measuring trade advantages: the Balassa index I Two approaches: Develop theory  empirically check if trade flows are consistent Empirically find strong export sectors  develop consistent theory How do you determine a country’s strong export sectors? Most often used: Balassa index or Revealed Comparative Advantage (RCA) Ottens (2000): 28 manufacturing sectors, OECD reference countries 2 sectors with highest Balassa index for Finland and Italy next slide

Measuring trade advantages: the Balassa index I
International Trade & the World Economy;  Charles van Marrewijk Measuring trade advantages: the Balassa index I

Countries specialize according to absolute costs advantage
International Trade & the World Economy;  Charles van Marrewijk Conclusions Countries specialize according to absolute costs advantage This increases world output Some empirical support Balassa Index (RCA) is empirically used to measure strong sectors

CHAPTER 3; COMPARATIVE ADVANTAGE
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 3; COMPARATIVE ADVANTAGE Introduction Classical economics and comparative advantage Analysis of comparative advantage Production possibility frontier and autarky Terms of trade and gains from trade Application: Kenya and the EU More countries and world ppf The Balassa index II Conclusions

Introduction David Ricardo (1772-1823)
International Trade & the World Economy;  Charles van Marrewijk Introduction David Ricardo ( )

Classical economics and comparative advantage
International Trade & the World Economy;  Charles van Marrewijk Classical economics and comparative advantage Technological differences between nations are the classical driving force behind international trade flows. According to David Ricardo relative or comparative differences are important, not absolute differences. According to Paul Samuelson (1915-; Nobel prize 1970) the theory of comparative advantage is One of the few ideas in economics that is true without being obvious The idea of comparative advantage is often misunderstood, see Paul Krugman (1953-) “Ricardo’s difficult idea” at

Analysis of comparative advantage
International Trade & the World Economy;  Charles van Marrewijk Analysis of comparative advantage International trade based on differences in technology assumptions 2 countries; EU and Kenya 2 goods; Food and Chemicals 1 factor of production; labor L Constant returns to scale; CRS Labor mobility between sectors, not between countries Perfect competition No transport costs unit labor requirement = units of labor required to produce one unit of a final good By assumption this is independent of the number of laborers active in a sector (CRS), but may differ between the two countries. Let be the for good F in EU, etc unit labor requirement

International Trade & the World Economy;  Charles van Marrewijk Analysis of comparative advantage Productivity table to summarize the state of technology Note that the EU is more efficient than Kenya in the production of both goods, requiring 2 < 4 laborers for Food and 8 < 24 laborers for Chemicals. Why would the EU trade with Kenya? Note: EU is twice more productive in Food, and three times in Chem. In autarky (without international trade) both countries will produce both goods if consumers demand both Food and Chemicals.

International Trade & the World Economy;  Charles van Marrewijk Analysis of comparative advantage According to David Ricardo both countries can gain from international trade through specialization (EU producing more chemicals and Kenya producing more food): Suppose Kenya produces 1 chemical less, this frees up 24 laborers. These 24 laborers can now produce 24/4 = 6 units of food To keep the production level of chemicals constant, the EU should make 1 chemical more. This requires 8 laborers. These 8 laborers could have made 8/2 = 4 units of food. Conclusion: EU Kenya change world prod. production of chem production of food The extra production represents gains from trade

Production possibility frontier and autarky
International Trade & the World Economy;  Charles van Marrewijk Production possibility frontier and autarky Production possibility frontier (ppf) = All possible combinations of efficient production points given the available factors of production and the state of technology. Note: ppf depends on available factors of production ppf depends on state of technology ppf does not depend on type of market competition

Production possibility frontier and autarky
International Trade & the World Economy;  Charles van Marrewijk Production possibility frontier and autarky Autarky prod. and cons. along ppf (determines autarky price ratio)

Terms of trade and gains from trade
International Trade & the World Economy;  Charles van Marrewijk Terms of trade and gains from trade Terms of trade is 4.8 food per unit of chemicals Both countries gain if international price is in between autarky prices

Terms of trade and gains from trade
International Trade & the World Economy;  Charles van Marrewijk Terms of trade and gains from trade Terms of trade is 4 food per unit of chemicals Only Kenya gains if international price is equal to EU autarky price

Application: Kenya and the EU
International Trade & the World Economy;  Charles van Marrewijk Application: Kenya and the EU Not all exports behave in accordance with comparative advantage (but explains more trade flows than absolute advantage)

More countries and world ppf
International Trade & the World Economy;  Charles van Marrewijk More countries and world ppf If we identify more countries and two goods we can calculate individual ppf’s with a slope depending on comparative advantage. Combining these in a world ppf gives rise to a concave frontier (next slide)

More countries and world ppf
International Trade & the World Economy;  Charles van Marrewijk More countries and world ppf

similar trade policy access to the Japanese for all countries
International Trade & the World Economy;  Charles van Marrewijk The Balassa index II The Ottens (2000) calculations of the Balassa index uses the OECD countries as reference. Sometimes all countries in the world are used. Hinloopen and van Marrewijk (2001) use data on EU exports for 98 sectors to Japan to calculate the Balassa index, such that: similar trade policy access to the Japanese for all countries similar development levels for the EU countries similar distance (physical and pecuniary costs) for all countries which supposedly results in a ‘cleaner’ measure of comparative advantage and the probability density function of the Balassa index as depicted on the next slide.

The Balassa index II The probability density function of the Balassa-index based on monthly-moving annual observations (restricted to 0  BI  4) source: Hinloopen and van Marrewijk (2001)

Conclusions Technological differences between countries are the classical driving force for international trade flows. Only comparative costs, not absolute costs, are important for determining the direction of trade flows. Absolute costs are important for determining a country’s welfare level. Empirically, comparative costs performs somewhat better than absolute costs. Allowing for more countries and more goods is easy, allowing for more than one factor of production is not (see part II).

CHAPTER 4; PRODUCTION STRUCTURE
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 4; PRODUCTION STRUCTURE Introduction Neo-classical economics General structure of the neo-classical model Production functions Cost minimization Impact of wage rate and rental rate Constant returns to scale Conclusions

Chapter 4 reviews the production structure of the neo-classical model
International Trade & the World Economy;  Charles van Marrewijk Introduction Chapter 4 reviews the production structure of the neo-classical model Paul Samuelson ( )

Neo-classical economics
International Trade & the World Economy;  Charles van Marrewijk Neo-classical economics International trade based on differences in endowments results Factor price equalization (FPE) Trade in goods (which equalizes final goods prices) leads to equalization of factor prices Rybczynski theorem (Ryb) An increase in the quantity of a factor of production at constant final goods prices leads to an increase in the production of the good using that factor intensively and a decreased production of the other good Stolper-Samuelson theorem (St-Sa) An increase in the price of a final good increases the reward to the factor used intensively in the production of that good and reduces the reward to the other factor Heckscher-Ohlin theorem (H-O) A country will export the final good which makes relatively intensive use of the relatively abundant factor of production

General structure of the neo-classical model
International Trade & the World Economy;  Charles van Marrewijk General structure of the neo-classical model International trade based on differences in endowments assumptions 2 countries; Austria and Bolivia (A and B) 2 goods; Food and Manufactures (F and M) 2 factors of production; labor and capital (L and K) Constant returns to scale; CRS Labor and capital mobility between sectors, not between countries Perfect competition No transport costs Identical technology in the two countries No factor-intensity reversal Identical homothetic tastes in the two countries Differences in (relative) factor endowments

General structure of the neo-classical model
International Trade & the World Economy;  Charles van Marrewijk General structure of the neo-classical model The capital-stock per worker varies significantly between countries NBER data for 1990 in 1985 $ (*1000)

Production functions An isoquant = the set of all efficient input combinations to produce a given amount of output.

Production functions The substitution possibilities between capital and labour in the neo-classical model are important (see the isoquant = 1 table below).

Capital intensity alpham influences substitution
International Trade & the World Economy;  Charles van Marrewijk Production functions Capital intensity alpham influences substitution

Cost minimization

The parameters play an important role.
International Trade & the World Economy;  Charles van Marrewijk Cost minimization The parameters play an important role. They indicate the capital-intensity of the production process: We assume that the production of manufactures is more capital-intensive than the production of food, that is: Also note that: So alpha also represents the share of costs paid to capital

Impact of wage rate and rental rate
International Trade & the World Economy;  Charles van Marrewijk Impact of wage rate and rental rate Impact of lower wage rate on cost minimizing input combination (substitution away from capital)

Constant returns to scale
International Trade & the World Economy;  Charles van Marrewijk Constant returns to scale With CRS isoquants are radial blow-ups of one another

Neo-classical trade model 222 structure (countries, goods, factors)
International Trade & the World Economy;  Charles van Marrewijk Conclusions Neo-classical trade model 222 structure (countries, goods, factors) perfect competition, constant returns to scale 4 main results (FPE, St-Sa, Ryb, HOS) different production factor intensities for goods different (relative) factor endowments for countries UNCTAD/WTO International Trade Center (ITC) website provides empirical data Primary product exports mainly in Africa, Middle East and Latin America (next slide)

Primary products; share of exports (%), 1998; Source: ITC
International Trade & the World Economy;  Charles van Marrewijk Conclusions Primary products; share of exports (%), 1998; Source: ITC

CHAPTER 5; FACTOR PRICES
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 5; FACTOR PRICES Introduction Factor price equalization The Lerner diagram From factor prices to final goods prices From final goods prices to factor prices Stolper - Samuelson Graphical analysis The magnification effect Application: globalization, low wages, and unemployment Conclusions

Introduction Harry Johnson (1923-1977)
International Trade & the World Economy;  Charles van Marrewijk Introduction Harry Johnson ( )

Factor price equalization (FPE)
International Trade & the World Economy;  Charles van Marrewijk Factor price equalization (FPE) In a neo-classical framework with 2 final goods and 2 factors of production, there is a one-to-one correspondence between the prices of the final goods and the prices of the factors of production, provided both goods are produced. This implies: factor rewards known  derive prices of final goods prices of final goods known  derive factor rewards Corollary In a neo-classical framework with 2 countries, 2 final goods, and 2 factors of production, international trade of the final goods, which equalizes the prices of these goods in the two nations, also leads to an equalization of the rewards of the factors of production in the two nations, provided both final goods are produced in both nations and the state of technology in the two nations is the same.

Unit value isocost line:
International Trade & the World Economy;  Charles van Marrewijk The Lerner diagram Unit value isocost line: Unit value isoquants:

From factor prices to final goods prices
International Trade & the World Economy;  Charles van Marrewijk From factor prices to final goods prices Knowing the prices of inputs w and r gives the unit cost line There is only isoquant for good M which touches it one This determines the price pm exactly L K 1/r 1/w Similarly, there is only isoquant for good F which touches the isocost line; this determines the price pf one exactly M = 1/pm B F = 1/pf C

From final goods prices to factor prices
International Trade & the World Economy;  Charles van Marrewijk From final goods prices to factor prices Given the prices of final goods pm and pf the unit value isoquants are determined exactly. They are drawn here in the figure There is only isocost line which touches these two isoquants one This determines the values 1/r and 1/w exactly K M = 1/pm This implies that if trade between two countries equalizes the prices of final goods and these two countries have identical CRS production functions, then the reward to factors of production w and r are also equalized (FPE) 1/r 1/w B C F = 1/pf L

Stolper - Samuelson proposition
International Trade & the World Economy;  Charles van Marrewijk Stolper - Samuelson Stolper - Samuelson proposition In a neo-classical framework with 2 final goods (both produced) and 2 factors of production, an increase in the price of a final good increases the factor price of the input used intensively in the production of that good, and reduces the factor price of the other input. So if e.g. the production of manufactures is capital intensive and the price of manufactures rises: the rental rate rises and the wage rate falls.

Graphical analysis An increase in the price of manufactures increases the rental rate and reduces the wage rate

The magnification effect
International Trade & the World Economy;  Charles van Marrewijk The magnification effect Jones magnification effect In a neo-classical framework with 2 final goods, manufactures M and food F, and 2 factors of production, capital K and labor L, with factor rewards r and w, respectively, changes in the final goods prices are magnified in the factor rewards. If we denote relative changes by ~ and assume that the production of manufactures is relatively capital intensive, the following relationships hold: if then

Application: globalization, low wages, and unemployment
International Trade & the World Economy;  Charles van Marrewijk Application: globalization, low wages, and unemployment The Stolper-Samuelson result was at the center of the ‘globalization’ debate; rising wage inequality in USA, rising unemployment in EU

Application: globalization, low wages, and unemployment
International Trade & the World Economy;  Charles van Marrewijk Application: globalization, low wages, and unemployment Argument: rising imports from low-wage unskilled-labor countries reduces unskilled-labor intensive final goods price, thus reducing wage rate for unskilled workers (USA) or increasing unemployment (EU)

In the neo-classical model:
International Trade & the World Economy;  Charles van Marrewijk Conclusions In the neo-classical model: one-to-one correspondence between final goods prices and factor rewards free trade  same final goods prices  same factor rewards (FPE) price increase of a final good raises reward to input used intensively in the production of that good, reduces reward to other input (St-Sa) changes of final goods prices magnified in factor prices (Jones magnification) application in globalization debate natural-resource intensive manufacturing exports haphazardly spread across the globe

Conclusions Natural-resource intensive man.; share of exports (%), 1998; Source: ITC

CHAPTER 6; PRODUCTION VOLUME
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 6; PRODUCTION VOLUME Introduction Rybczynski The Edgeworth Box The contract curve The distribution of labor and capital Application: Russian immigrants in Israel Conclusions

Introduction Francis Edgeworth (1845-1926)
International Trade & the World Economy;  Charles van Marrewijk Introduction Francis Edgeworth ( )

Rybczynski proposition
International Trade & the World Economy;  Charles van Marrewijk Rybczynski Rybczynski proposition In a neo-classical framework with 2 final goods (both produced), 2 factors of production, and constant prices of the final goods, an increase in the supply of one of the factors of production results in: increased production of the final good that uses this factor of production relatively intensively, and reduced production of the other final good Thus, if the production of manufactures is capital intensive and the capital stock increases this leads to an increased production of manufactures and a reduced production of food

The Edgeworth Box

The contract curve

The contract curve The curvature of the contract curve depends on the difference in capital intensity for the production of food and manufactures

The distribution of labor and capital
International Trade & the World Economy;  Charles van Marrewijk The distribution of labor and capital For given prices of the final goods the wage-rental ratio does not change (FPE result). Given the wage-rental ratio, cost-minimization determines the optimal capital-labor ratio for production of food and manufactures. Expansion and contraction of production for food and manufactures does not affect the optimal capital labor ratio (straight lines) The distribution of capital and labor is then determined by the full employment conditions (all capital and labor should be used), that is the point of intersection of the expansion paths in the Edgeworth Box

The distribution of labor and capital
International Trade & the World Economy;  Charles van Marrewijk The distribution of labor and capital Impact of increased labor force (Ryb)

Application: Russian immigrants in Israel
International Trade & the World Economy;  Charles van Marrewijk Application: Russian immigrants in Israel Period : immigration of Jews from Russia into Israel Russian Jews had better education Result: increased output of skill-intensive goods (Ryb); explains up to 90% of factor absorption LTH = Less Than Highschool; HG = Highschool Graduate; SC = Some College; CG = College Graduate

Use Edgeworth Box and contract curve
International Trade & the World Economy;  Charles van Marrewijk Conclusions Neo-classical model: Increased supply of capital leads to increased production of capital-intensive good (Ryb) Magnification effect Use Edgeworth Box and contract curve Application: absorption of change in labor supply composition as a result of immigration from Russia Unskilled-labor intensive exports mainly in Souteast Asia and Central Europe (next slide)

Conclusions Unskilled labour intensive man.; share of exports (%), 1998; Source: ITC

CHAPTER 7; FACTOR ABUNDANCE
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 7; FACTOR ABUNDANCE Introduction Heckscher - Ohlin Demand The production possibility frontier Structure of the equilibrium Autarky equilibrium International trade equilibrium Application: the Summers-Heston data The case of the missing trade Conclusions

Introduction Bertil Ohlin (1899-1979)
International Trade & the World Economy;  Charles van Marrewijk Introduction Bertil Ohlin ( )

Heckscher-Ohlin proposition
International Trade & the World Economy;  Charles van Marrewijk Heckscher - Ohlin Heckscher-Ohlin proposition In a neo-classical framework with 2 final goods, 2 factors of production, and 2 countries which have identical homothetic tastes, a country will export the good which intensively uses the relatively abundant factor of production. If the production of manufactures is capital intensive and Austria is capital abundant, Austria will export manufactures and import food.

Maximizing the utility function
International Trade & the World Economy;  Charles van Marrewijk Demand All previous neo-classical results depend only on the supply side, since we have to specify the demand side to make conclusions about trade flows. Maximizing the utility function subject to a standard budget contraint implies that consumers will spent a fraction of their income on manufactures (quite similar to cost minimization problem for producers)

The production possibility frontier
International Trade & the World Economy;  Charles van Marrewijk The production possibility frontier With crs and 2 factors of production the ppf is concave to the origin

International Trade & the World Economy;  Charles van Marrewijk The production possibility frontier The curvature of the ppf depends on the difference in capital intensity for the production of food and manufactures

International Trade & the World Economy;  Charles van Marrewijk The production possibility frontier Increase in capital stock leads to outward shift of ppf biased in the direction of capital intensive manufactures; tangency points at constant prices is straight line (Ryb)

Structure of the equilibrium
International Trade & the World Economy;  Charles van Marrewijk Structure of the equilibrium

Autarky equilibrium

Autarky in 2 countries (A and B)
International Trade & the World Economy;  Charles van Marrewijk Autarky equilibrium Capital abundant A produces relatively more capital intensive manufactures at relatively lower price Autarky in 2 countries (A and B)

International trade equilibrium For A price of manufactures rises: capital abundant A produces even more capital intensive manufactures and exports these in exchange for food

Application: the Summers-Heston data
International Trade & the World Economy;  Charles van Marrewijk Application: the Summers-Heston data Hypothetical production/worker in autarky using Summers-Heston data

Application: the Summers-Heston data
International Trade & the World Economy;  Charles van Marrewijk Application: the Summers-Heston data Hypothetical production/worker in free trade w. Summers-Heston data

The case of the missing trade
International Trade & the World Economy;  Charles van Marrewijk The case of the missing trade First important empirical study (1956) leads to ‘Leontief paradox’: supposedly capital abundant USA imports capital intensive goods? Possible explanations: demand bias, factor-intensity reversal, restrictiveness of 22 2 framework. Later studies, e.g. Bowen, Leamer, and Sveikauskas (1987), analyze more goods, more factors, more countries, as did Trefler (1995) who finds modest support for neo-classical trade model (about 71%) shows that factor service trade is smaller than factor endowments prediction (case of missing trade) support increases if technological differences (part I of the book) are taken into consideration (to about 78%) support increases if domestic demand bias is taken into consideration (to about 87%) with neo-classical model, different technology, and demand bias about 93% of international trade flows can be explained.

assumes identical homothetic preferences; neutralize demand effects
International Trade & the World Economy;  Charles van Marrewijk Conclusions Neo-classical model: assumes identical homothetic preferences; neutralize demand effects countries with high capital-labor ratio have high wage-rental ratio in autarky and low relative price of capital intensive good free trade equalizes final goods prices (and thus factor prices; FPE) capital abundant country exports capital intensive good (HOS) free trade increases production, global efficiency, and welfare extended version of the model performs reasonably well empirically technology intensive manufacturing exports mainly in OECD countries (next slide)

Technology intensive man.; share of exports (%), 1998; Source: ITC
International Trade & the World Economy;  Charles van Marrewijk Conclusions Technology intensive man.; share of exports (%), 1998; Source: ITC

Tariffs, quota's, and other trade restrictions
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 8; TRADE POLICY Introduction Tariffs, quota's, and other trade restrictions Tariffs and partial equilibrium Tariffs and general equilibrium Chapter 8 tool: offer curves General equilibrium with offer curves The "optimal" tariff? Optimal tariffs and retaliation Tariffs in the USA Conclusions

Introduction James Meade (1907-1995)
International Trade & the World Economy;  Charles van Marrewijk Introduction James Meade ( )

International Trade & the World Economy;  Charles van Marrewijk Tariffs, quota's, and other trade restrictions There are many types of trade restrictions, e.g. specific tariffs, ad valorem tariffs, quota, subsidies, prohibitions, minimum content, etc. Multilateral rounds by GATT/WTO have reduced the tariff levels considerably

Tariffs and partial equilibrium; small country
International Trade & the World Economy;  Charles van Marrewijk Tariffs and partial equilibrium; small country

Tariffs and partial equilibrium; large country
International Trade & the World Economy;  Charles van Marrewijk Tariffs and partial equilibrium; large country

Tariffs and general equilibrium
International Trade & the World Economy;  Charles van Marrewijk Tariffs and general equilibrium Tariff raises production of protected good, lowers production of other good trade reduced

Tariffs and general equilibrium
International Trade & the World Economy;  Charles van Marrewijk Tariffs and general equilibrium Tariffs double distortion: for production and consumption

Chapter 8 tool: offer curves
International Trade & the World Economy;  Charles van Marrewijk Chapter 8 tool: offer curves Offer curve depicts all combinations of export supply in exchange for import demand

General equilibrium with offer curves
International Trade & the World Economy;  Charles van Marrewijk General equilibrium with offer curves Intersection offer curves gives trade equilibrium

Imposing tariff rotates offer curve, influences equilibrium
International Trade & the World Economy;  Charles van Marrewijk The ‘optimal’ tariff? Imposing tariff rotates offer curve, influences equilibrium

The ‘optimal’ tariff? Tangency of trade indifference curve with foreign offer curve determines ‘optimal’ tariff

Optimal tariffs and retaliation
International Trade & the World Economy;  Charles van Marrewijk Optimal tariffs and retaliation Tariff war leads to bad outcome for all

Tariffs in the USA

There are many different types of trade restrictions
International Trade & the World Economy;  Charles van Marrewijk Conclusions There are many different types of trade restrictions Imposing tariffs leads to winners (some producers and the government) and losers (other producers, consumers, and abroad) Net welfare is negative if the country is ‘small’ (efficiency loss, Harberger triangles) Net welfare effect is potentially positive if the country is ‘large’ (= can influence the world relative price level; ‘optimal’ tariff) Net welfare effect also negative for large country with retaliation quota equivalent to tariff, except for distribution tariff revenue human capital intensive manufactures exports mainly in OECD countries, Central Europe, and Latin America (next slide)

Human capital intensive man.; share of exports (%), 1998; Source: ITC
International Trade & the World Economy;  Charles van Marrewijk Conclusions Human capital intensive man.; share of exports (%), 1998; Source: ITC

CHAPTER 9; IMPERFECT COMPETITION
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 9; IMPERFECT COMPETITION Introduction Monopoly Monopoly in general equilibrium; autarky Oligopoly The pro-competitive effect of international trade Reciprocal dumping Application: the Twaron takeover Conclusions

Introduction Joseph Stiglitz (1942 - )
International Trade & the World Economy;  Charles van Marrewijk Introduction Joseph Stiglitz ( )

Monopoly A monopolist equates marginal revenue (MR) and marginal cost (MC) to determine optimal output; Note: price is higher than MC

Monopoly in general equilibrium; autarky
International Trade & the World Economy;  Charles van Marrewijk Monopoly in general equilibrium; autarky Main assumptions There is a single producer of manufactures; this is a monopoly market There are many producers of food; the market is perfectly competitive The markets for factors of production (capital and labor) are also perfectly competitive (the monopolist of manufactures therefore has no monopsony power on its input markets). All firms maximize profits. All consumers maximize

Monopoly in general equilibrium; autarky
International Trade & the World Economy;  Charles van Marrewijk Monopoly in general equilibrium; autarky Monopoly producer for manufactures

Oligopoly; quantity competition, Cournot-Nash equilibrium
International Trade & the World Economy;  Charles van Marrewijk Oligopoly; quantity competition, Cournot-Nash equilibrium Pricing rule:

The pro-competitive effect of international trade
International Trade & the World Economy;  Charles van Marrewijk The pro-competitive effect of international trade

Reciprocal dumping Cournot competition model with 2 identical countries and positive (iceberg) transport costs; trade results in ‘cross-hauling’ / ‘reciprocal dumping’: product sold at lower mark-up abroad than at home. Producers accept lower mark-up abroad because of perceived higher elasticity of demand (lower market share) Despite ‘pointless and costly’ two way trade welfare increases if the transport costs are not too high as a result of the pro-competitive gains from trade.

Application: the Twaron takeover
International Trade & the World Economy;  Charles van Marrewijk Application: the Twaron takeover An example of pro-competitive gains from trade in reverse: the Twaron (Dutch firm) takeover by Teijin (Japanese firm) reduces the number of competitors in the aramid fiber market (used for friction, sealing, bullet proof vests, etc.) from 3 to 2 (other competitor is DuPont). Depending on price elasticity this raises the market price and the profit level for the remaining firms.

Imperfect competition implies a mark-up of price over marginal costs
International Trade & the World Economy;  Charles van Marrewijk Conclusions Imperfect competition implies a mark-up of price over marginal costs Size of mark-up depends on price elasticity of demand and degree of competition Imperfect competition leads to sub-optimal outcome in general equilibrium (deviation between MRS and MRT) International trade increases market competion and reduces the distortionary effect of imperfect competition (pro-competitive gains)

CHAPTER 10; INTRA - INDUSTRY TRADE
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 10; INTRA - INDUSTRY TRADE Introduction Measuring intra-industry trade Dixit-Stiglitz demand Demand effects; income, price elasticity , and price index Increasing returns to scale Optimal pricing and zero profits Explaining intra-industry trade An alternative interpretation: intermediate goods Conclusions

Introduction Avinash Dixit (1944 - )
International Trade & the World Economy;  Charles van Marrewijk Introduction Avinash Dixit ( )

Measuring intra-industry trade (= two-way trade in similar goods)
International Trade & the World Economy;  Charles van Marrewijk Measuring intra-industry trade (= two-way trade in similar goods) Use the Grubel-Lloyd (GL) index to measure intra-industry trade:

Measuring intra-industry trade
International Trade & the World Economy;  Charles van Marrewijk Measuring intra-industry trade Variations in extent of intra-industry trade

Measuring intra-industry trade
International Trade & the World Economy;  Charles van Marrewijk Measuring intra-industry trade Increasing importance of intra-industry trade

Dixit-Stiglitz demand
International Trade & the World Economy;  Charles van Marrewijk Dixit-Stiglitz demand If there are N (= ‘large’) different varieties of manufactures And the utility function is: Then, subject to the budget constraint; the demand for a variety, say j, is: (discussed below) Characteristic is the love-of-variety effect, e.g. if ci = c for all i:

Demand effects; income, price elasticity , and price index
International Trade & the World Economy;  Charles van Marrewijk Demand effects; income, price elasticity , and price index Dixit-Stiglitz demand depends on: The income level I equiproportionally The price charged by the producer negatively A parameter  > 1 = price elasticity of demand The price index P positively Demand for a variety rises if the general price level P increases; Each producer ignores his own impact on this price level, which is reasonable if N is ‘large’ but not if N is ‘small’ (see next slide)

Demand effects; income, price elasticity , and price index
International Trade & the World Economy;  Charles van Marrewijk Demand effects; income, price elasticity , and price index

Increasing returns to scale (IRS)
International Trade & the World Economy;  Charles van Marrewijk Increasing returns to scale (IRS) If the production function requires a fixed labor cost f before production starts at variable labor cost m there are IRS:

Optimal pricing and zero profits
International Trade & the World Economy;  Charles van Marrewijk Optimal pricing and zero profits As a result of IRS each variety is produced by single producer. This producer has market power and charges a monopolistically competitive price (determines the optimal price by MR = MC, taking the prices charged by the other firms [the price index P] as given). Because the price elasticity of demand is constant (equal to the parameter ) the mark-up over marginal costs charged by the producer is also constant. Firms will enter the market (producing new varieties) if profits are positive; they will exit if profits are negative. The number of varieties N produced is therefore determined by the zero-profit condition. In the Dixit-Stiglitz model the number of varieties N produced is proportional to the size of the economy as measured by the labor force

Explaining intra-industry trade
International Trade & the World Economy;  Charles van Marrewijk Explaining intra-industry trade

An alternative interpretation: intermediate goods; Krugman
International Trade & the World Economy;  Charles van Marrewijk An alternative interpretation: intermediate goods; Krugman

An alternative interpretation: intermediate goods; Ethier
International Trade & the World Economy;  Charles van Marrewijk An alternative interpretation: intermediate goods; Ethier

Intra-industry trade is measured using the Grubel-Lloyd index.
International Trade & the World Economy;  Charles van Marrewijk Conclusions Empirically observed prevalence of intra-industry trade (two-way trade in similar products) puzzled theorists. Intra-industry trade is measured using the Grubel-Lloyd index. Krugman uses Dixit-Stiglitz variety approach with monopolistic competition and IRS to explain intra-industry trade. Trade extends the market and raises welfare through an increases of the number of varieties available (love-of-variety). Alternative interpretation (Ethier) explains intra-industry trade through exchange of intermediate goods; increased specialization leads to positive production externalities.

CHAPTER 11; STRATEGIC TRADE POLICY
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 11; STRATEGIC TRADE POLICY Introduction Market power and tariffs The non-equivalence of tariffs and quota's Strategic trade policy The nature of competition Evaluation of strategic trade policy Application: the aircraft industry Conclusions

Introduction Jagdish Bhagwati (1934 - )
International Trade & the World Economy;  Charles van Marrewijk Introduction Jagdish Bhagwati ( )

Market power and tariffs
International Trade & the World Economy;  Charles van Marrewijk Market power and tariffs

The non-equivalence of tariffs and quota's
International Trade & the World Economy;  Charles van Marrewijk The non-equivalence of tariffs and quota's

Strategic trade policy
International Trade & the World Economy;  Charles van Marrewijk Strategic trade policy

The nature of competition
International Trade & the World Economy;  Charles van Marrewijk The nature of competition

Evaluation of strategic trade policy
International Trade & the World Economy;  Charles van Marrewijk Evaluation of strategic trade policy Strategic trade policy seems to give an intellectual motivation for government interaction in the trade system to benefit the domestic economy. There are, however, several important reservations: Competition for resources; in general equilibrium the expansion of the protected sector comes at the cost of another sector where those resources might have been used more effectively. Entry and exit of firms; will erode supernormal profits. Retaliation; will result in a trade war. Informational requirements (regarding nature of competition, cost structure, demand, strategic interaction, etc.); most important argument, since these are clearly beyond the control of any government in the world.

Application: the aircraft industry
International Trade & the World Economy;  Charles van Marrewijk Application: the aircraft industry Large IRS (learning-by-doing) in the civil aircraft industry make this sector a primary target for government intervention (USA-EU)

Conclusions With imperfect competition tariffs and quota’s are no longer equivalent. Tariffs are less restrictive than quota’s as tariffs leave the forces of foreign competition intact. Strategic trade policy: provide competitive advantage to domestic firms by providing a credible pre-commitment in competition game. Nature of optimal strategic trade policy very sensitive to type of competition and dynamic structure of competitive game model. Also other weaknesses in strategic trade policy arguments (competition for resources, entry & exit, retaliation, information)

CHAPTER 12; INT. TRADE ORGANIZATIONS
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 12; INT. TRADE ORGANIZATIONS Introduction The World Trade Organization (WTO/GATT) The United Nations (UN) and UNCTAD Organization for Economic Cooperation and Development (OECD) Case study: economic transition in Central and Eastern Europe Conclusions

Introduction Jan Tinbergen (1903-1994)
International Trade & the World Economy;  Charles van Marrewijk Introduction Jan Tinbergen ( )

The World Trade Organization (WTO/GATT)
International Trade & the World Economy;  Charles van Marrewijk The World Trade Organization (WTO/GATT) The international GATT agreement is based on three principles: Non-discrimination; as expressed in two sub-principles - Most Favored Nation (MFN) treatment - National treatment of foreign products Two main exceptions to the non-discrimination principle: - Free trade areas and customs unions - Developing countries Reciprocity (exception: developing countries) Prohibition on trade restriction other than tariffs (exception in case of balance-of-payments problems)

The World Trade Organization (WTO/GATT)
International Trade & the World Economy;  Charles van Marrewijk The World Trade Organization (WTO/GATT) Duration of GATT rounds and number of countries involved.

The United Nations (UN) and UNCTAD
International Trade & the World Economy;  Charles van Marrewijk The United Nations (UN) and UNCTAD UN established in 1945, deals with many issues (culture, human rights, security, etc.); for economics most important ECOSOC: Programs and Funds; UNCTAD, UNDP, UNHCR, UNICEF, etc. Functional Commissions; Social Development, Human Rights, etc. Regional Commissions; ECA, ECE, ECLAC, ESCAP, etc. Specialized (independent) Agencies; ILO, FAO, UNESCO, WHO, WorldBank, IMF. UNCTAD established out of dissatisfaction with the role of developing countries in the world economy (Group of 77); publishes the World Investment Report.

Organization for Economic Cooperation & Development, OECD
International Trade & the World Economy;  Charles van Marrewijk Organization for Economic Cooperation & Development, OECD

Case study: economic transition in Central and Eastern Europe
International Trade & the World Economy;  Charles van Marrewijk Case study: economic transition in Central and Eastern Europe Economic transition has different dimensions

International Trade & the World Economy;  Charles van Marrewijk Case study: economic transition in Central and Eastern Europe

International Trade & the World Economy;  Charles van Marrewijk Case study: economic transition in Central and Eastern Europe GDP/capita (index, 1990 = 100)

OECD is organization of economically more advanced countries.
International Trade & the World Economy;  Charles van Marrewijk Conclusions GATT, replaced by WTO, deals most directly with international trade problems (GATT rounds to reduce trade barriers become more complicated, take longer and involve more countries over the years). UN organizations affect all aspects of human life; UNCTAD focuses on problems of developing countries. OECD is organization of economically more advanced countries. Adjusting a country’s organizational and institutional framework is an enormous and time-consuming process, as illustrated by the Central and Eastern European countries.

CHAPTER 13; ECONOMIC INTEGRATION
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 13; ECONOMIC INTEGRATION Introduction Types of regional economic integration Neo-classical theory of economic integration Regional trade agreements Regionalism and the new trade theory Europe and the European Union Future enlargement of the European Union Conclusions

Introduction Jacob Viner (1892 - 1970)
International Trade & the World Economy;  Charles van Marrewijk Introduction Jacob Viner ( )

Types of regional economic integration
International Trade & the World Economy;  Charles van Marrewijk Types of regional economic integration Preferential trade agreement (PTA); ACP countries Free trade area (FTA); EFTA, NAFTA Customs union; EEC Common market; EU Economic union; EMU

Neo-classical theory of economic integration
International Trade & the World Economy;  Charles van Marrewijk Neo-classical theory of economic integration Trade creation

Neo-classical theory of economic integration
International Trade & the World Economy;  Charles van Marrewijk Neo-classical theory of economic integration Trade diversion

Regional trade agreements
International Trade & the World Economy;  Charles van Marrewijk Regional trade agreements COMESA countries

International Trade & the World Economy;  Charles van Marrewijk Regional trade agreements ASEAN countries

International Trade & the World Economy;  Charles van Marrewijk Regional trade agreements

Regionalism and the new trade theory
International Trade & the World Economy;  Charles van Marrewijk Regionalism and the new trade theory Using a Dixit-Stiglitz type model with the world consisting of many provinces which may form b trading blocs, welfare is non-monotonic

Europe and the European Union
International Trade & the World Economy;  Charles van Marrewijk Europe and the European Union

International Trade & the World Economy;  Charles van Marrewijk Europe and the European Union Establishing a common market (EEC treaty) with four freedoms: Free movement of goods (Cassis-de-Dijon case, 1979). Free movement of persons Free movement of services Free movement of capital The main institutions of the European Union are: The Council of the European Union The European Commission; The European Parliament; The European Court of Justice The European Central Bank (ECB)

International Trade & the World Economy;  Charles van Marrewijk Europe and the European Union Green circle: former EFTA Red star: potential EU member

Future enlargement of the European Union
International Trade & the World Economy;  Charles van Marrewijk Future enlargement of the European Union

There are many regional trade agreements (RTAs) in the world.
International Trade & the World Economy;  Charles van Marrewijk Conclusions There are many regional trade agreements (RTAs) in the world. We also distinguish FTAs, customs union, common market, economic union. RTAs in general increase welfare through trade creation, but the discriminatory nature of an RTA may make the net welfare effect negative. Increased popularity of Regionalism rather than Multilateralism may be bad for the world economy. EU is most succesful and powerful economic integration scheme; many CEE countries want to join; EU’s political decision process needs to be revised.

CHAPTER 14; GEOGRAPHICAL ECONOMICS
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 14; GEOGRAPHICAL ECONOMICS Introduction Zipf's Law and the gravity equation The structure of the model Multiple locations and equilibrium Chapter 14 tool: computer simulations Welfare Application: predicting the location of European cities Conclusions

Introduction Paul Krugman (1953 - )
International Trade & the World Economy;  Charles van Marrewijk Introduction Paul Krugman ( )

Zipf's Law and the gravity equation
International Trade & the World Economy;  Charles van Marrewijk Zipf's Law and the gravity equation

The structure of the model
International Trade & the World Economy;  Charles van Marrewijk The structure of the model

Multiple locations and equilibrium
International Trade & the World Economy;  Charles van Marrewijk Multiple locations and equilibrium

International Trade & the World Economy;  Charles van Marrewijk Multiple locations and equilibrium Short-run equilibrium; given the distribution of manufacturing labour Price index equation Income equation Wage equation (from demand = supply in manufactures sector

International Trade & the World Economy;  Charles van Marrewijk Multiple locations and equilibrium Three examples

International Trade & the World Economy;  Charles van Marrewijk Multiple locations and equilibrium Manufacturing labour force adjustment

Chapter 14 tool: computer simulations
International Trade & the World Economy;  Charles van Marrewijk Chapter 14 tool: computer simulations

Welfare

Application: predicting the location of European cities
International Trade & the World Economy;  Charles van Marrewijk Application: predicting the location of European cities

Distinction stable equilibrium and unstable equilibrium.
International Trade & the World Economy;  Charles van Marrewijk Conclusions Combining various international economic theories with factor mobility provides a simple theory of location and agglomeration. Distinction short-run equilibrium (given distribution of the manufacturing labour force) and long-run equilibrium (endogenously determined by equality of real wages). Distinction stable equilibrium and unstable equilibrium. Using computer simulations: high transport costs lead to spreading of economic activity low transport costs lead to agglomeration of economic activity intermediate transport costs lead to multiple long-run equilibria Extensions of the basic model can explain empirical regularities, such as Zipf’s Law and the Gravity Equation.

CHAPTER 15; MULTINATIONALS
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 15; MULTINATIONALS Introduction The size and structure of multinationals Foreign direct investment Explaining multinationals Multinationals in general equilibrium Characterization of equilibrium Case study: hard disk drives Conclusions

Introduction Joseph Schumpeter (1883 - 1950)
International Trade & the World Economy;  Charles van Marrewijk Introduction Joseph Schumpeter ( )

The size and structure of multinationals
International Trade & the World Economy;  Charles van Marrewijk The size and structure of multinationals

Foreign direct investment
International Trade & the World Economy;  Charles van Marrewijk Foreign direct investment

Explaining multinationals Dunning’s OLI framework:
International Trade & the World Economy;  Charles van Marrewijk Explaining multinationals Dunning’s OLI framework: Ownership advantages Location advantages Internalization advantages Empirical characteristics of multinationals: high ratios of R&D relative to sales employ large numbers of scientific, technical, and other 'white collar' workers as a percentage of their work force high value of 'intangible' assets associated with new and/or technically complex products negatively associated with plant-level scale economies associated with product-differentiation variables (e.g. advertising/sales) A minimum or 'threshold' level of firm size seems to be important Multinationals tend to be older, more established firms.

Multinationals in general equilibrium
International Trade & the World Economy;  Charles van Marrewijk Multinationals in general equilibrium Markusen-Venables model Perfect competition and CRS for food sector. Imperfect competition and IRS for manufacturing sector Production of manufactures characterized by c - the (constant) marginal production costs in terms of labor t - the amount of labor needed to transport one unit of manufactures from Austria to Bolivia, or vice versa. F - the firm level fixed costs in terms of labor. G - the plant level fixed costs in terms of labor.

Multinationals in general equilibrium
International Trade & the World Economy;  Charles van Marrewijk Multinationals in general equilibrium Headquarter location Headquarters in Austria Firm level fixed costs FwA Plant level fixed costs GwA fixed costs GwB Multi-plant production? + yes no Headquarters in Bolivia Firm level fixed costs FwB + Plant level fixed costs GwB Multi-plant production? yes Plant level fixed costs GwA no nA; national firm, headquarters in Austria MC in A = cwA MC in B = (c+t)wB mA; multinational firm, headquarters in Austria MC in A = cwA MC in B = cwB mB; multinational firm, headquarters in Bolivia MC in A = cwA MC in B = cwB nB; national firm, headquarters in Bolivia MC in A = (c+t)wA MC in B = cwB

Characterization of equilibrium
International Trade & the World Economy;  Charles van Marrewijk Characterization of equilibrium

Case study: hard disk drives
International Trade & the World Economy;  Charles van Marrewijk Case study: hard disk drives

Most multinationals in OECD countries
International Trade & the World Economy;  Charles van Marrewijk Conclusions Multinationals are becoming increasingly important (w.r.t. production, investment, and trade) Most multinationals in OECD countries Most FDI horizontal acquisitions between OECD countries Explaining multinationals Descriptive OLI framework Modern general equilibrium framework Modern framework determines market structure endogenously; results confirm reasonably well with stylized facts (multinationals dominate if countries are more similar; national firms dominate if countries differ in size or relative endowment)

CHAPTER 16; NEW GOODS, GROWTH & DEVELOPMENT
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 16; NEW GOODS, GROWTH & DEVELOPMENT Introduction Modeling new goods Kaldor's stylized facts of economic growth The neo-classical model and the Solow residual Empirical pictures Endogenous growth An experiment in geographical economics Conclusions

Introduction Paul Romer (1955 - )
International Trade & the World Economy;  Charles van Marrewijk Introduction Paul Romer ( )

Modeling new goods The variety approach
International Trade & the World Economy;  Charles van Marrewijk Modeling new goods The variety approach

Modeling new goods The quality approach
International Trade & the World Economy;  Charles van Marrewijk Modeling new goods The quality approach

Kaldor's stylized facts of economic growth
International Trade & the World Economy;  Charles van Marrewijk Kaldor's stylized facts of economic growth Nicholas Kaldor (1961) suggested the following list of stylized facts: The continued growth in the aggregate volume of production and in the productivity of labor at a steady trend rate. A continued increase in the amount of capital per worker. A steady rate of profit on capital. Steady capital-output ratios over long periods. A steady investment coefficient, and a steady share of profits and wages.

Kaldor's stylized facts of economic growth
International Trade & the World Economy;  Charles van Marrewijk Kaldor's stylized facts of economic growth

The neo-classical model and the Solow residual
International Trade & the World Economy;  Charles van Marrewijk The neo-classical model and the Solow residual

Empirical pictures

Paul Romer’s (1994) list of stylized facts:
International Trade & the World Economy;  Charles van Marrewijk Endogenous growth Paul Romer’s (1994) list of stylized facts: There are many firms in a market economy. Discoveries differ from other inputs in that many people can use them at the same time (nonrival goods). It is possible to replicate physical activities. Technological advance comes from things that people do. Many individuals and firms have market power and earn monopoly rents on discoveries.

Operating profit for manufactures producer
International Trade & the World Economy;  Charles van Marrewijk Endogenous growth Production function: Operating profit for manufactures producer Future profits discounted; profits erode if number of varieties increases Inventing new variety represents fixed cost; with knowledge spillovers economy steadily grows forever; growth rate higher if: the labor force is higher (increasing returns to scale ensure that size is important) the fixed costs of investment F are lower, and the discount rate is lower.

An experiment in geographical economics
International Trade & the World Economy;  Charles van Marrewijk An experiment in geographical economics Experiment w. 12 city racetrack; Herfindahl = measure of agglomeration

An experiment in geographical economics
International Trade & the World Economy;  Charles van Marrewijk An experiment in geographical economics

Rising per capita income is relatively new phenomenon.
International Trade & the World Economy;  Charles van Marrewijk Conclusions Rising per capita income is relatively new phenomenon. Some countries have experienced relatively steady growth, others long periods of stagnation and rapid increases. Neo-classical model based on capital accumulation needs exogenous technological change to ‘explain’ growth; large Solow residual. Endogenous growth models based on imperfect competition and innovation (new goods and/or quality improvements) led by entrepreneurs in search of profits. Large swings in economic prosperity may be explained by geographical economics model.

CHAPTER 17; APPLIED TRADE POLICY
International Trade & the World Economy;  Charles van Marrewijk CHAPTER 17; APPLIED TRADE POLICY Introduction Demand Partial equilibrium models General equilibrium models Measuring what is not there: the Dupuit triangle More on the dynamic costs of trade restrictions China, a case study Conclusions

Introduction Léon Walras (1834-1910)
International Trade & the World Economy;  Charles van Marrewijk Introduction Léon Walras ( )

Demand As a result of demand bias country A imports manufactures despite being capital abundant

Demand Linder hypothesis
International Trade & the World Economy;  Charles van Marrewijk Demand Linder hypothesis Producers manufacture goods to satisfy local needs (similarity in income implies similar needs, implies more trade between similar countries). Armington assumption Each country or region produces a unique product (separately listed in utility function, implies separate demand function).

Partial equilibrium models
International Trade & the World Economy;  Charles van Marrewijk Partial equilibrium models

Partial equilibrium models
International Trade & the World Economy;  Charles van Marrewijk Partial equilibrium models Example: estimated costs of US steel protection, million US $; source: Francois and Hall (1997)

General equilibrium models
International Trade & the World Economy;  Charles van Marrewijk General equilibrium models Applied General Equilibrium (AGE) trade policy models distinguish between more (groups of) countries and sectors take simultaneous effects of proposed policy measures into consideration frequently use Constant Elasticity of Transformation (CET) ppf various ways of modeling factor markets frequently use Armington-type assumption countries not explicitly modeled captured with ad hoc assumptions 1st generation: static, perfect competition, CRS; 2nd generation: static, imperfect competition, IRS; 3rd generation: dynamic models

General equilibrium models
International Trade & the World Economy;  Charles van Marrewijk General equilibrium models Example: impact of Uruguay Round, GDP quantity index (% change); Source: Francois, McDonald and Nordstrom (1997)

Measuring what is not there: the Dupuit triangle
International Trade & the World Economy;  Charles van Marrewijk Measuring what is not there: the Dupuit triangle

More on the dynamic costs of trade restrictions
International Trade & the World Economy;  Charles van Marrewijk More on the dynamic costs of trade restrictions

China GDP/capita as a percentage of world GDP per capita
International Trade & the World Economy;  Charles van Marrewijk China, a case study China GDP/capita as a percentage of world GDP per capita

China; capital inflows, net FDI (% of GDP)
International Trade & the World Economy;  Charles van Marrewijk China, a case study China; capital inflows, net FDI (% of GDP)

Conclusions Applied trade policy uses model structure determined by current data with detailed policy orientation analyzing non-local changes. For questions limited in scope: applied partial equilibrium (Harberger triangles). More ambitious questions: AGE models; (i) CRS and perfect competition, (ii) IRS and imperfect competition, (iii) dynamic. International contacts (trade, fdi, etc.) spread ideas, new goods and services, etc. Barriers to trade limit the spread of ideas, thus leading to products not introduced; potential dynamic costs are large, as measured by the Dupuit triangles.

CHAPTER 1; THE WORLD ECONOMY

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