hecksher ohlin trade modelz
TRANSCRIPT
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Selected Post-Heckscher-
Ohlin Trade Models
Appleyard & Field (& Cobb): Chapter 10
Krugman & Obstfeld: Chapter 6
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Todays Lecture
1. Economies of Scale (the Krugman model)
2. Domestic monopolies
3. Imitation Lag and The Product Cycle Model
4. The Linder Model5. Gravity Models
6. Geography and Trade
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The Krugman Model: Assumptions
1. Internal economies of scale
2. Monopolistic competition
(non-homogeneous goods)
3. One factor of production (labour)4. Identical preferences
5. Large number of goods produced with the
same technology
6. Full employment
Paul R. Krugman (1979): Increasing returns, monopolistic competition, andinternational trade.Journal of International Economics, Vol. 9(4): 469-479
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Key assumption 1: Economies of Scale
External: cost per unit depends on the size of the
industry, not the firm (Silicon Valley, Hollywood...) Internal: cost per unit depends on the size of the
firm, not industry(Nokia, Phillips, GE...)
o Krugman models technology: L=a+b*Q theamount of labour required (L) to produce amount of
input (Q) depends on b*Q andconstant a (fixed cost)
Doubling the inputs more thandoubles theoutput (increasing internal economies of scale)
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Production Possibilities Frontier with
Economies of Scale
Good Y
Good X
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Key assumption 2:
Monopolistic Competition
Each firm produces a different brand of the
good (goods that are not exactly the same, but that aresubstitutes for one another)
Each firm takes prices of rivals as given (=no
strategic pricing) Each firm behaves as if it were a monopolist
However, we assume easy entry and exit
zero-profits in the long runo as long as (average cost < price) more firms enter the
market
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Long-Run Market Equilibrium of
Monopolistically Competitive Market
The more firms there are:
1. the less each firmproduces higheraverage cost (due toincreasing returns to scale) upward sloping costcurve
2. the harder the
competition decreasingprice downwardsloping price curve
Price
Number of firms
AC
P
n*
p*
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Introducing Trade to the Monopolistic
Competition Model
Trade increases market size firms exploit more of thereturns to scale average costdecreases price decreasesnumber of firms increases
i.e. a larger variety of products isavailable for smaller price
everybodyare better off even if
the countries are identical
Price
Number of firms
ACA
P
nA
pA
nFT
pFT
ACFT
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Intra- and Inter-industry Trade Inter-industry trade: countries export goods of one
product category and imports goods of other productcategory as in the Ricardian as well as in theHeckscher-Ohlin modelo e.g. Finland exports capital-intensive and imports labour
intensive goods Intra-industry trade: countries export and import
products of the same products category as in theKrugman modelo e.g. the U.S. exports and imports carso constitutes about of the world trade
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Explaining Trade Patterns
Inter-industry trade reflects the comparative
advantageo the pattern of trade is determined by relative factor
endowments / technological differences
Intra-industry trade reflects economies of scaleo the pattern of trade is unpredictable
The relative importance of the two kinds of tradedepend on how similar the countries are
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Other Explanations of Intra-Industry Trade
Transport costs in large countries (e.g. a buyer in Maine
buys the Canadian rather than the Californian product) Dynamic economies of scale: product differentiation +
learning-by-doing
Problems with statisticso Aggregation: the categories are too wide (e.g. beverages
and tobacco)
o Different quality of goods inside a product category
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Domestic monopolies
Domestic monopoly entering world markets
Single monopoly & price discrimination
Two domestic monopolies entering world
markets (reciprocal dumping model)
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Domestic Monopoly Entering World Markets
Price
Quantity
D
MC
MRA
QA QT
exports
Pint
PAPD
MRT
QD
Domestic monopoly is able to get
Pint from the world market
Pint = minimum marginal revenue
The monopolists
maximizes profits
by selling QD at
home for price PDand QT-QD
abroad for Pint
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Single world supplier:
Price Discrimination
Quantity
P
rice
Quantity
Price
Country 1
MC
D1MR1
MR2
D2
Country 2
Profit maximizing monopolist,
constant marginal cost, separate
markets and a more price-elastic
demand in country 2
P1
P2
P1>P2
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Dumping One of the most heated & active debates on trade concerns dumping.
Roughly, this means that domestic producers complain that foreign
competitors are selling at unfairly low prices and hence there should beantidumping measures (tariffs/quotas). There are (at least) two definitions
what dumping means:
o Economics definition: Price discrimination in the
context of international trade (a firm is charginglower/higher price for its exports)
o Pragmatic (lawyers) definition: the price is less than
production cost.This could be an indicator ofpredatory pricingwhere the aim is to drive the domestic competitor out of the market and
afterwards the foreign firm would use its monopoly power and increase
prices (and hence hurt the consumers).
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Reciprocal Dumping Model Two countries, two firms producing identical
goods, transportation costs First, both are domestic monopolies
Then, both enter each others markets
duopoly (two firms taking into account the behaviour of eachother when choosing prices and quantities)
In the (Nash) equilibrium price and output are determined in each
market for each firm (getting the result requires some knowledge ofgame-theory, so we will not derive it here)
The point is that the price is different in home andforeign markets (hence dumping)
Brander (1981): Intra-Industry Trade in Identical Commodities. JIE 11(1)
Brander & Krugman (1983): A Reciprocal Dumping Model of International Trade. JIE 15(3/4)
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Imitation Lag Assume that it takes time for new technology to spread
Imitation lag: the time between products introduction incountry 1 and appearance of a version of that product produced
in country 2
Demand lag: time between products appearance in country 1
and its acceptance in country 2
Net lag: imitation demand lag
Trade focuses on new products
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The Product Cycle Theory The product cycle consists of three stages (new,
maturing, standardized)
1. A new product is introduced in a rich countryo High-income demands, labour-saving production
technique
o The firms operate only in the domestic markets and learnproduction techniques and consumer responses
2. Maturing producto Economies of scale start to realize
o Demand in other rich countries starts to emerge
o Part of the production may be shifted to these countriesand they might even start exporting to the original country
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The Product Cycle Theory
3. Standardizedproduct
o Product is well know
to consumers andproducer
o Production may shift
to the developing
countiestime
Production, consumption
(in the developed country)
exports
imports
new product
stage
maturingproduct
stage
standardizedproduct
stage
Consumption1
Production1
Vernon (1966): International InvestmentAnd International Trade in the Product
Cycle.Quarterly Journal of Economics80(2).
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Dynamic Comparative Advantage Dynamic comparative advantage: source of
exports shift throughout the life cycle of thegood (e.g. electronics, cars)
Resulting from economies of scale, factor
mobility and innovation
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The Linder Model Demand-oriented model to explain trade in
manufactured goods Preferences depend on the level of income
tastes yield demands for products demands lead to
production the kinds of goods produced depend onthe per capita income level of a country
Trade occurs if there is overlapping demand
Trade will be more intense the more
similar the countries are
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The Linder Model: Example
Let A be the lowest quality and J
the highest quality good Let country 1 be the poorest and
country 3 the richest (see graph)
Then country 1 consumes andproduces goods AD, country 2
goods CF and country 3 good EJ
Countries 1 and 2 may trade goodsC,D; countries 2 and 3 may tradegoods E,F and countries 1 and 3
have no basis for tradeIncome
levels
Goods
S.B Linder (1961): An Essay on Trade
and Transformation. John Wiley & Sons.
A
B
C
D
EF
G
H
J
Country 1
Country 2Country 3
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Gravity Models Focus to explain thevolume (not the composition) of
trade between two countries Popular framework in econometrics: Typically the
volume of exports and imports is modelled as a
function of countries national incomes, distance andother observable characteristics such as population size
and institutional dummies (e.g. free trade area)
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Geography and Trade Firms decide the location of production in the
presence ofo economies of scale rationale for concentrating
production, imperfect competition
o transportation cost rationale for decentralizing
production Dynamic comparative advantage may be based oncoincidence that has set off a cumulative process
Trade often takes place as a result of arbitrary
specialization based on increased returns Policies may influence the beginning of such an
cumulative process
P. Krugman (1991): Geography and Trade. MIT Press.
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Basis for Trade Comparative Advantage
o Technology (Ricardian Model)
o Factor endowments (Heckscher-Ohlin Model)
Internal economies of scale (Krugman Model) Dynamic Comparative Advantage
o Innovation and product cycle
oCumulative process due to e.g. external economies of scale orlearning-by-doing
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Impact of Trade Ricardian Model
o
complete specializationo increase of countrys consumption possibilities
Heckscher-Ohlin Modelo shift of production towards commodity that uses
intensively countrys abundant factor of productiono real income of the abundant factor increases and the
real income of scarce factor decrease
o
increase of countrys consumption possibilities Krugman Modelo more firms and more varieties of goods
o lower cost of production lower price