NorthSouth Trade and Economic Growth

1
North-South Trade and Economic Growth

• Elias Dinopoulos Paul Segerstrom
  University of Florida Stockholm School of
  Economics

2
Organization

• Introduction and Motivation
• Elements of the Model
• Results
• Concluding Remarks

3
Introduction and Motivation

• The 1978 decision of China to joint the world
  trading system is a topic of considerable public
  policy interest.
• Businesses all over the world have seen China
  gobble up the toy industry, and they now look on
  in horror as it does the same for shoes, fridges,
  microwaves and air conditioners. This country of
  1.3 billion people has an apparently
  inexhaustible supply of workers willing to work
  long hours for pitifully low payHow can anybody
  compete against this gigantic new workshop of the
  world? Economist, 2003.

4
Introduction and Motivation

• The are also potential benefits associated with
  Chinas entry into the world trading system
• The focus, though, should not be on such
  obstacles, but on the great benefits of Chinas
  growth. Millions of consumers in other countries
  are gaining from the low prices and high quality
  of Chinese goods. A billion Chinese are escaping
  the dire poverty of the past. Businesses across
  the globe will profit from supplying a vast new
  market Economist, 2003.

5
Introduction and Motivation

• The present paper develops a dynamic model of
  North-South trade and semi-endogenous growth.
• The rates of imitation and innovation as well as
  the North-South wage gap are endogenous.
• Southern firms are gobbling up products that
  used to produce in the North.
• Profits of Northern firms increase when they are
  able to sell their products to a larger Southern
  market.
• Northern consumers benefit from lower priced good
  produced by Southern firms and exported back to
  the North.

6
Introduction and Motivation

• Why do we need another North-South trade and
  growth model?
• Previous models have clearly counterfactual
  implications for economic growth related to the
  scale-effects property.
• With the exception of Helpman (1993), previous
  models do not study the welfare implications.

7
Introduction and Motivation

• We illustrate the models potential by exploring
  the steady-state implications of three aspects of
  globalization
• Increases in the size of the South (i.e.,
  countries like China joining the world trading
  system).
• Stronger protection of intellectual property
  (i.e., the TRIPs agreement that was negotiated in
  the Uruguay round).
• Reduction in trade costs.

8
Overview of the Model

• Two country (North and South) dynamic general
  equilibrium model.
• Labor is the only factor of production and grows
  over time at an exogenous rate.
• Labor can be employed in three activities
• Manufacturing of final consumption goods
• Innovative RD located only in the North
• Imitative RD located in the South

9
Overview of the Model

• There is a continuum of industries of measure one
  producing final consumption goods whose quality
  can be improved through innovative RD
• Firms hire Northern workers to engage in
  innovative RD and discover new higher-quality
  products.
• If successful, these firms are called quality
  leaders and serve the global market by producing
  in the North.

10
Overview of the Model

• Southern firms can hire Southern workers to
  engage in imitative RD aiming at copying
  Northern products.
• If successful, these firms serve the global
  market from the South.
• We solve the model for a steady-state equilibrium
  where the wage rates are constant over time with
  a higher Northern wage and product-cycle trade.

11
Consumer Behavior

• Households are modeled as dynastic families that
  maximize discounted lifetime utility
• where,

12
Consumer Behavior

• The solution to the consumers maximization
  problem yields the static per-capita demand
  function
• and the standard differential equation

13
Product Markets

• We assume that each industry, firms are Bertrand
  price-setters.
• Innovations are drastic and allow quality leaders
  to charge the unconstraint monopoly price.
• We also assume that one worker produces one unit
  of final output.
• After standard calculations we can derive the
  profit maximizing prices for Northern and
  Southern quality leaders.

14
Product Markets

• Monopoly pricing of Northern quality leaders
• Monopoly pricing of Southern quality leaders

15
Innovation and Imitation

• A Northern firm discovers the next higher quality
  product with instantaneous probability
• A Southern firm copies a state-of-the-art quality
  product with instantaneous probability

16
Industrial Structure

• The model generates product-cycle trade.
• In the long-run equilibrium, the measure of
  Northern leaders, mN (and Southern leaders, mS
  1 - mN ) has to be constant mN I/(I C) and
  mS C/(I C).

17
RD Optimization

• All firms maximize expected discounted profits
  and there is free entry into each innovative and
  imitative RD race

18
Labor Markets

• Full employment of Northern labor requires that
  the labor employed in manufacturing of final
  goods and in innovative RD should be equal to
  the supply of labor in the North.
• Full employment of Southern labor requires that
  the labor employed by Southern quality leaders
  and the labor employed by firms engaged in
  imitative RD equals the supply of Southern labor.

19
Steady-State Equilibrium

• Northern market-equilibrium condition
• Southern market-equilibrium condition

20
Steady-State Equilibrium

• Northern relative wage ? wN/wS
• The rate of innovation is exogenous

21
Economic Growth

• Long-run growth is exogenous
• An increase in the relative RD difficulty
• leads to a temporary acceleration in the rate of
  innovation

22
Steady-State Equilibrium
C
North
Relative wage ( ß ?)
A
A
South (LS? ß ?)
xN
0
?
23
Trade Liberalization Increases the Size of Open
South
24
An Increase in Souths Size
25
An Increase in Souths Size

• Result 1 Under costless trade, a permanent
  increase in the size of the open South leads to
  more copying of Northern products, faster
  temporary technological change, and less wage
  income inequality between Northern and Southern
  workers.

26
Intellectual Property Protection
27
Intellectual Property Protection

• Result 2 Under costless trade, stronger
  protection of intellectual property rights leads
  to less copying of Northern products, slower
  technological change, and more wage income
  inequality between Northern and Southern workers.

28
Trade Costs

• Result 3 A permanent change in trade costs leads
  to no change in the rates of imitation and
  innovation. In the neighborhood of costless
  trade, a reduction in trade costs leads to a
  permanent decrease in the North-South wage gap if
  the Northern market is larger than the Southern
  market

29
Steady-State Welfare

• Result 4 Under costless trade, a permanent
  increase in the size of the South makes the
  typical Southern consumer better off and has an
  ambiguous effect on Northern steady-state
  welfare.
• Result 5 In the neighborhood of costless trade,
  a decrease in trade costs makes both Southern and
  Northern consumers better off.

30
Steady-State Welfare

• Result 6 Under costless trade, an increase in
  intellectual property protection makes the
  typical Southern consumer worse off and generates
  an ambiguous effect on the long-run welfare of a
  typical Northern consumer.

31
Summary and Conclusions

• The paper developed a model of North-South trade
  and Schumpeterian growth, in which the North
  innovates and the South imitates.
• The theoretical results support the notion that
  globalization increases the rate of technological
  change and reduces the wage income inequality
  higher intellectual property protection mitigates
  the effects of globalization.

32
Summary and Conclusions

• Globalization is a multi-dimensional phenomenon
  and one paper will not settle the debate.
• The presence of multinational companies could
  change some of the results of the paper.
• By extending the model to allow for two factors
  of production, one could study how globalization
  affects wage inequality within regions.