A State-Centered Approach to the Politics of Trade

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A State-Centered Approach to the Politics of Trade

• READING ASSIGNMENT
• Oatley Chapter 5

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Plan

• What does the state want?
• Survival
• Why would the state intervene?
• Infant Industries

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What does the state want?

• Improve overall welfare
• Increase its relative power

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What does the state want?

• SURVIVAL!
• Political Institutions shape the incentives of
  political leaders
• Under democracy, leaders survive by winning votes
• Under dictatorship, leaders survive by satisfying
  elite constituents
• military, big business, foreign interests

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Democracy vs. Dictatorship
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Hazard Rate over Time for Democracies (Solid
Line) Dictatorships (Dotted Line) Time in
years
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Time in office

• Does not improve a democratic leaders chances
  in office
• What then helps democratic leaders survive?
• PROVISION OF PUBLIC GOODS
• In the United States
• Economic Growth

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Time in office

• Does improve an autocratic leaders chances in
  office
• Why?
• PROVISION OF PRIVATE GOODS
• Pay off a small, loyal group of supporters
• Military elites
• Business elites

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Changing focus toA more specific institution
Legislative Representation

• Proportional?
• Or Malapportioned?

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Who needs the most gasoline per capita?Urban v
Rural
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Policy outcome?

• Weve got Interests Incentives
• Now, to get the policy outcome,
• We interact interests/incentives with a domestic
  political institution
• Malapportionment!

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Malapportionment tends to weigh RURAL preferences
more than URBAN

• (i.e., Proportional representation tends to weigh
  URBAN preferences more than RURAL)
• Does this have an effect on NATIONAL policy?

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Test

• Does malapportionment affect
• Gasoline prices

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How can the state get what it wants?

• Industrial Policy
• Tariffs
• Subsidies
• Investment

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Why does the state protect?

• One answer Infant industries

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Infant-industry case

• Long-run welfare gains created by a new industry
  will be greater than the short-run losses of
  social welfare
• infant industries like children who need the
  protection of their parents until they grow
  strong
• Comparative advantages are DYNAMIC

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• Both states are better off with tradeBUT
• Would you rather live in Brazil with trade?
• Or the United States with autarky?

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Infant Industry Argument 1Fixed costs
Economies of scale

• Economies of scale refers to the decreased
  per-unit-cost as output increases.
• The initial investment of capital is diffused
  (spread) over an increasing number of units of
  output
• ? The marginal cost of producing a good or
  service decreases as production increases

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Example

• Suppose an industry requires an initial
  investment (fixed cost) of 1000
• With 100 customers, the Average Fixed Cost is 10
• With 200 customers, the Average Fixed Cost
  becomes 5
• This results in a lower average total cost

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• No economies of scale
• If costs increase proportionately to the quantity
  of all input factors
• Diseconomies of scale
• If costs increase by a greater amount than the
  quantity of all input factors
• Economies of scale
• If costs decrease by a greater amount than the
  quantity of all input factors

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A different way to approach returns to scale

• Where all inputs increase by a factor of 2, new
  values for output should be
• Twice the previous output ?
• a constant return to scale
• More than twice the previous output ?
• an increased return to scale
• Less than twice the previous output ?
• a decreased return to scale

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Formal notation

• Y is output, K is capital, L is labor, F is the
  production function
• YF(K,L)
• Suppose we double our inputs
• 2K, 2L
• F(2K,2L) ???
• How much does Y increase?
• If F(2K,2L) 2F(K,L) ? We have _______ returns
  to scale
• CONSTANT
• F(2K,2L) gt 2F(K,L) ? We have _______ returns to
  scale
• INCREASING
• If F(2K,2L) lt 2F(K,L) ? We have _______ returns
  to scale
• DECREASING

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Slightly more abstract notation

• Y is output, K is capital, L is labor, F is the
  production function, a is the increase in inputs
• YF(K,L)
• If F(aK,aL)aF(K,L) ? Constant returns to scale
• If F(aK,aL)gtaF(K,L) ? Increasing returns to scale
• F(aK,aL)ltaF(K,L) ? Decreasing returns to scale
• For fun Apply this to the Cobb-Douglas
  production function! Yippee!

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Bringing the two sets of concepts together?

• YF(K,L) start up costs

You can have increasing returns to scale if
And/or if investments in inputs generate
disproportionately high increases in outputs
Start-up costs are high
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Infant Industry Argument 2Economies of
experience

• Efficient production requires specific skills
  that can only be acquired through production in
  the industry
• Experienced management
• Skilled workers
• Network of suppliers

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Why cant markets efficiently educate / train
the workforce?

• Trained people may leave the firm, taking their
  skills elsewhere
• Missing market
• Futures market for labor
• Externalities from education?

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Economies of scale /or experience can lead to

• Oligopoly, market power
• Barriers to entry
• First mover advantages

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Suppose an industry where market-demand supports
only one firm (high tech e.g., aircraft)
European firm
PRODUCE NOT PRODUCE
PRODUCE 5, 5 100, 0
NOT PRODUCE 0, 100 0, 0
US firm
What are the two EQUILIBRIA? (R,C)
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Equilibrium

• An outcome where no player has an incentive to
  deviate from his or her chosen strategy given the
  strategies of the other players.

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Whoever moves first wins!

• http//www.youtube.com/watch?vK4GAQtGtd_0feature
  related

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Now suppose the US moved first, but Europe offers
a subsidy (R,C)
European firm
PRODUCE NOT PRODUCE
PRODUCE 5, 5 100, 0
NOT PRODUCE 0, 110 0, 0
US firm
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Take-aways

• What do governments want? Survival
• Democracy v. Autocracy
• Malapportionment
• Why does the state intervene?
• Infant Industries
• Economies of Scale
• Increasing returns to scale
• Economies of experience
• First mover advantages
• Equilibria

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Thank youWE ARE GLOBAL GEORGETOWN!