I N T E R N AT I O N A L T R A D E T H E O RY A N D E V I D E N C E. Maria Luigia Segnana with Andrea Fracasso and Giuseppe Vittucci-Marzetti

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1 I N T E R N AT I O N A L T R A D E T H E O RY A N D E V I D E N C E S Y L L A B U S ( P R O V I S I O N A L ) Maria Luigia Segnana with Andrea Fracasso and Giuseppe Vittucci-Marzetti February 2009 University of Trento Doctoral School in International Studies and CIFREM Doctoral School contents 1 Models of trade under perfect competition Differences in Production Technologies Differences in Factors Endowments Sector Specific Factors: The Ricardo-Viner model (Optional) 3 2 Trade and Market Structure Increasing Returns to Scale and Monopolistic Competition Oligopoly and reciprocal dumping Patterns of Trade, comparative advantage and IRS 4 3 The Tools and Effects of Trade Policies Trade liberalization and protection Cases for free trade, cases for protection 5 4 WTO and Multilateral Trade The political economy of trade agreements Hints on the Political Economy of Trade and Protection 6 s 8 The course has three main objectives. The first is to describe the nature of trade, that is its causes, consequences and welfare effects, in 1

2 light of the conventional trade models. We will discuss the gains from trade and the different causal explanations for trade flows as well as trade s effects on factor reward. The emphasis is on explaining why countries trade. The second objective is to present causes of trade with reference to the market structure. First the emergence of firm as unit of analysis will be identified as a first crucial factor whreas the role of the market structure for the competition in the international arena represents the second key factor. This approach abandons the assumption of perfect competition and constant return to scale. The different approaches focussing on market structure are organized as alternative virtual explanation of intra-industry trade and include: taste for variety, reciprocal dumping in oligopolistic market structure and the integrated Krugman-HO approach. Trade patterns are differentiated in terms of of horizontal (and vertical) trade. The last objective of the course is to investigate some issues of the multilateral trading system with a focus on the theoretical reasons why countries do sign trade agreements. A discussion on some empirical issues of the world trading system will follow Textbooks and prerequisites Sources from the Net As assigned textbook for the course I recommend the book Rivera- Batiz, L. A. and Oliva, M.-A. (2003). A basic introduction in trade theory is given by Krugman, P. R. and Obstfeld, M. (2005). It is assumed that students are acquainted with the material covered in the first part of this book. An alternative basic-intermediate book is Markusen, J. R. and Melvin, J. R. and Kaempfer, W. H. and Maskus, K. E. (1995) especially Ch. 1-5 and Part II, Ch An advanced textbook is Feenstra, R. C. (2004). Other books are quoted in s. A crucial book for the dual representations of general equilibrium is Dixit, A. K. and Norman, V. (1980), particularly Ch. 2 and Technical Annex. More recently see Ch. 9 in Bhagwati, JN and Panagarya A. and Srinivasan T.R. (1998). A landmark book discussing the complementarity of the HO s and the krugman s models is Helpman, E. and Krugman, P. R. (1985). Many websites are very useful tools: Professor Deardorff from the University of Michigan has written an extremely valuable Glossary of International Economics, with terms and picture gallery, available on line; the WTO website and the EU Scadplus website provide data, information and students resources. Check the world news on trade issues on publicly available sources, via CEPR s VOX blog or the Economists Forum of the Financial Times. 2

3 1 models of trade under perfect competition The old trade theories explain the trade flows between countries in terms of comparative advantages that arise from productivity differences or from different factor endowments. 1.1 Differences in Production Technologies Absolute and comparative advantage. Comparative Advantage explained by exogenous differences in labor productivity. Wages in the international specialization equilibrium. Comparative advantage and the Ricardian model with a continuum of goods. The Ricardian model with a continuum of goods. 1.2 Differences in Factors Endowments The Heckscher-Ohlin (H-O) or the 2x2x2 Model. Core theorems: The Stolper-Samuelson theorem, the Rybczynski theorem, the H-O theorem and the Factor Price Equalization theorem. Hints on extensions of the model to the case with many goods and factors. The factor content of trade (Heckscher-Ohlin-Vanek, H-O-V). The model as a poor predictor of actual trade flows. Rivera-Batiz and Oliva (2003). Chapter Sector Specific Factors: The Ricardo-Viner model (Optional) Introducing the short run view: sector specific factors. Modifications to the core theorems. Adjustment from the short run to the long-run equilibrium. Empirical Findings Case 1. Extensions and empirical tests of comparative advantage. Factor content of trade and the Leontief Paradox. Rivera-Batiz and Oliva (2003), Chapter 3, from pg. 77. Case 2. The debate about trade and wages. Rivera-Batiz and Oliva (2003), Chapter 3, pg Case 3. The volume of bilateral trade. Rivera-Batiz and Oliva (2003), Chapter 3, from pg. 99. Readings Dornbusch et al. (1977). Krugman (1995, sect.1.harrigan (2003), Leamer and Levinsohn(1995). Exercises Problem Set, section 1. 3

4 2 trade and market structure The new trade theory examines other causes for trade and their link with the competitive conditions of the market. This new approach abandons the assumption of perfect competition and constant return to scale. The different approaches focusing on market structure are organized as alternative virtual explanations of intra-industry trade and include: taste for variety, the reciprocal dumping in oligopolistic market structure and integrated Krugman-HO approach. Trade patterns are derived in terms of horizontal (and vertical) trade. 2.1 Increasing Returns to Scale and Monopolistic Competition The monopolistic competition equilibrium. The effect of trade under monopolistic competition and the new sources of gains from trade. Autarky versus free trade. Trade in products requiring fixed costs in production. Love for variety and CES preferences. Rivera-Batiz and Oliva (2003), Chapter 2, pg Oligopoly and reciprocal dumping The interaction between firms in an oligopolistic market structure provides an explanation for international specialization and trade: the case of reciprocal dumping. Rivera-Batiz and Oliva (2003), Chapter 7, pg Chapter 14, pg Patterns of Trade, comparative advantage and IRS Encompassing CA and IRS. Inter and Intra-industry. Building upon Krugman 1980: the role of firms heterogeneity. Rivera-Batiz and Oliva (2003), Chapter 2. Chapter 3, pg Empirical Findings Case 1. The gravity equation. Rivera-Batiz and Oliva (2003), Chapter 3, pg Anderson and van Wincoop (2003). Case 2. Export-productivity and firms heterogeneity. Greenaway and Kneller (2005) Readings Brander and Krugman (1983). Krugman (1979, 1980,1981). Greenaway and Kneller (2005). Exercises Problem Set, section 2. 3 the tools and effects of trade policies 3.1 Trade liberalization and protection Instruments of trade policy.welfare costs in static and dynamic settings. Welfare costs of trade restrictions in static and dynamic settings. Welfare and import tariffs: the small and large country cases. Optimal trade policy. Cournot, Bertrand and the strategic use of trade policy. Terms of trade argument and retaliation. Feenstra(2004), ch.7, ch. 13 selected parts, 4

5 3.2 Cases for free trade, cases for protection Rent extraction. Import quotas and export subsidies. The infant industry argument. Corden(1997), Feenstra(2004), ch. 8 selected parts. Rivera-Batiz and Oliva(2003), 13.8;13.10, Chapters 13, 14. Readings Rodrik (1994). Empirical Findings Irwin(2007), Broda et al.(2008,feenstra(1992, Rivera-Batiz and Oliva(2003),14.4, Exercises Problem Set, section 3. 5

6 4 wto and multilateral trade 4.1 The political economy of trade agreements The economic theory of the WTO. Why do countries sign trade agreements: possible different answers. The cornerstones of the multilateral trading system: reciprocity, non discrimination, enforcement. Non cooperative Nash equilibrium. Efficient tariff equilibrium. Politically optimal tariff. Bagwell and Staiger (2004), Rivera-Batiz and Oliva (2003), ch. 18,19, selected parts. 4.2 Hints on the Political Economy of Trade and Protection Explaining trade policy as the outcome of the political process: the median voter approach. Lobbying and the choice of trade policy instruments. The protection for sale. Empirical Findings Discussion on preferential trade agreements agreements. Rivera-Batiz and Oliva (2003), Chapters 16, selected parts. Other Textbook Treatment Hoeckman and Kostecki (2001): selected chapters. Readings Bagwell and Staiger (2004). Jackson (1997) ch.1. Baldwin and Venables (1995). Bhagwati et al. (1998a). Krueger (1999). Panagariya (2000). Markusen et al. (1995): ch. 19. Exercises Problem Set, section 3. 6

7 Chapter 15, pg Rivera-Batiz et al. (2003). Exercises Problem Set, section 4. 7

8 references Anderson, J. E. and van Wincoop, E. (2003). Gravity with Gravitas: A Solution to the Border Puzzle. NBER Working Papers (8079). Bagwell, K. and Staiger, R. (1998). Will Preferential Agreements Undermine the Multilateral Trading System? The Economic Journal 108(449), Bagwell, K. and Staiger, R. (2004). The Economics of the World Trading System. The MIT Press. Bhagwati, J. and Greenaway, D. and Panagariya, A. (1998a). Trading Preferentially: Theory and Policy. The Economic Journal 108(449), Bhagwati, J. N. and Panagariya, A. and Srinivasan, T. R. (1998). Lectures on International Trade. MIT Press. Brander, J. A. (1981). Intra-Industry Trade in Identical Commodities. The Journal of International Economics 11, Brander, J. A. and Krugman, P. R. (1983). A Reciprocal Dumping Model of International Trade. NBER Working Papers (1194). Broda, C. and Limao, N. and Weinstein, D. E. (2008). Optimal tariffs and market Power. The Evidence. American Economic Review 98(5), Caves, R. E. and Jones, R. W. (2006). Introduction. Pearson Education. World Trade and Payments. An Corden, Max W. (1997). Trade Policy and Economic Welfare. Clarendon Press. Davis, D. R. (1995). Intraindustry Trade: A Heckscher-Ohlin-Ricardo Approach. The Journal of International Economics 39, Davis, D. R. and Weinstein, D. E. (2001). The Factor Content of Trade. NBER Working Papers (8637). Davis, D. R. and Weinstein, D. E. (2002). The Mistery of the Excess Trade (Balances). The American Economic Review (2), Deardorff, A. V. (1979). Weak Links in the Chain of Comparative Advantage. Journal of International Economics 9(2), Debaere, P. M. (2003). Relative Factor Abundance and Trade. The Journal of Political Economy 111(3), Dixit, A. K. and Norman, V. (1980). Theory of International Trade: A Dual, General Equilibrium Approach. Cambridge University Press. (Cited on page 2.) Dornbusch, R. and Fischer, S. and Samuelson, P. A. (1977). Comparative Advantage, Trade and Payments in a Ricardian Model with a Continuum of Goods. The American Economic Review 67(5), Dornbusch, R. and Fischer, S. and Samuelson, P. A. (1980). Heckscher- Ohlin Trade Theory with a Continuum of Goods. The Quarterly Journal of Economics 95(2), Feenstra, R. C. (2004). Advanced International Trade: Theory and Evidence. Princeton University Press. (Cited on page 2.) Feenstra, R. C. and Hanson, G. H. (2001). Global Production Sharing and Rising Inequality: A Survey of Trade and Wages. NBER Working Papers (8372). 8

9 Feenstra, R. C. and Markusen, J. A. and Rose, A. K. (2001). Using the Gravity Equation to Differentiate among Alternative Theories of Trade. Canadian Journal of Economics 34(2), Feenstra, R.C. (1992). How costly is protectionism? The Journal of Economic Perspectives 6(3), Goldberg, P. K. and Maggi, G. (1999). Protection for Sale: An Empirical Investigation. The American Economic review 89(5), Greenaway, D.and Kneller, R. (2005). Firm Heterogeneity, Exporting and Foreign Direct investment: A Survey. Research Paper Series 32. Grossman, G. M. and Helpman, E. (1994). Protection for Sale. The American Economic Review 84(4), Harrigan, J. (2003). Specialization and the Volume of Trade: Do the Data obey the Laws? In K. Choi and J. Harrigan (Eds.), Handbook of International Trade. Basil Blackwell New York. Helpman, E. and Krugman, P. R. (1985). Market Structure and Foreign Trade. The MIT Press. (Cited on page 2.) Hoeckman, B. M. and Kostecki, M. M. (2001). The Political Economy of the World Trading System: The WTO and Beyond. Oxford University Press. Irwin, D.A. (2007). Trade restrictiveness and deadweight losses from U.S.tariffs NBER Working Paper Jackson, J. H. (1997). The World Trading System: Law and Policy of International Economic Relations. The MIT Press. Jones, R. W. (1965). The Structure of Simple General Equilibrium Models. Journal of Political Economy 73(6), Krueger, A. O. (1999). Are Preferential Trade Arrangements Trade- Liberalizing or Protectionist? Journal of Economic Perspectives 13(4), Krugman, P. (1995). Increasing Returns, Imperfect Competition and the positive theory of International Trade. In G. M. Grossman and K. Rogoff (Eds.), Handbook of International Economics, Volume 3, Chapter 24. North Holland. Krugman, P. R. (1979). Increasing Returns, Monopolistic Competition, and International Trade. The Journal of International Economics 9(4), Krugman, P. R. (1980). Scale Economies, Product Differentiation, and the Pattern of Trade. The American Economic Review 70(5), Krugman, P. R. (1981). Intraindustry Specialization and the Gains from Trade. The Journal of Political Economy 89(5), Krugman, P. R. (1989). Industrial Organization and International Trade. NBER Working Papers (1957). Krugman, P. R. (1991). Increasing Returns and Economic Geography. The Journal of Political Economy 99(3), Krugman, P. R. and Obstfeld, M. (2005). International Economics. Theory and Policy. Addison Wesley. (Cited on page 2.) Leamer, E. E. (1980). The Leontief Paradox, Reconsidered. The Journal of Political Economy 88(3),

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