Introduction Measuring intra-industry trade Dixit-Stiglitz demand Demand effects; income, price...

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

CHAPTER 10; INTRA - INDUSTRY TRADEInternational Trade & the World Economy; Charles van Marrewijk

Explanations for trade

Classical 2. Opportunity costs 3. Comparative advantage

Neo-classical 4. Production structure 5. Factor prices 6. Production volume 7. Factor abundance

1. The world economy

New trade 9. Imperfect competition 10. Intra-industry trade

Policy

8. Trade policy

11. Strategic trade policy

12. Int. trade organizations 13. Economic integration

17. Applied trade policy modeling

Economicgeography

New interactions 14. Geographical economics 15. Multinationals 16. New goods, growth, and development

Industrialorganization

Internationalbusiness

Growth theory

Part

IPa

rt I

IP

art

III

Part

IV

18. Concluding remarks

Introduction








Conclusions


Introduction International Trade & the World Economy; Charles van Marrewijk

Objectives / key terms

Aggregation level Grubel-Lloyd index

Intra-industry trade (love-of-) Variety

Dixit-Stiglitz demand Price elasticity of demand

Internal and external scale economies Monopolistic competition

Mark-up pricing Zero profits

Avinash Dixit (1944 - )

Introduction








Conclusions


Measuring intra-industry trade (= two-way trade in similar goods) International Trade & the World Economy; Charles van Marrewijk

ii

iii Ex

ExGL

Im

Im1

Use the Grubel-Lloyd (GL) index to measure intra-industry trade:

Table 10.1 International trade between The Philippines (RP) and Japan; 1998*

SITC Exports

from RP

Imports

into RP

GL index

8 Miscellaneous manufactured articles 383,167 576,412 0.80

81 Prefabricated buildings 4,147 2,186 0.69

82 Furniture and parts thereof 42,332 6,155 0.25

83 Travel goods, handbags and similar containers 4,804 67 0.03

84 Articles of apparel and clothing accessories 115,627 3,255 0.05

85 Footwear 13,283 920 0.13

87 Prof. scientific & controlling instruments 24,091 175,018 0.24

88 Photographic apparatus 72,174 123,333 0.74

89 Miscellaneous manufactured articles 106,709 265,477 0.57

Measuring intra-industry tradeInternational Trade & the World Economy; Charles van Marrewijk

Table 10.2 Intra-industry trade, GL-index manufacturing sector 1995 (3-digit level, %)

Country World OECD 22 NAFTA East Asia Dev. Latin America

Australia 36.6 17.5 16.0 39.2 41.6

Bangladesh 10.0 3.5 1.7 3.4 8.0

Chile 25.7 10.1 11.5 3.6 47.8

France 83.5 86.7 62.7 38.7 22.9

Germany 75.3 80.1 61.2 36.2 22.8

Japan 42.3 47.6 45.7 36.1 7.0

Malaysia 60.4 48.5 57.9 75.0 10.4

Hong Kong 28.4 20.2 25.2 19.9 13.6

UK 85.4 84.0 72.5 46.6 38.6

USA 71.7 74.0 73.5 41.4 66.0

Source: NAPES website, http://napes.anu.edu.au/

Variations in extent of intra-industry trade

Measuring intra-industry tradeInternational Trade & the World Economy; Charles van Marrewijk

Intra-industry trade (2-digits)

0

1

1961 1966 1971 1976 1981 1986 1991 1996

Japan

USA

Germany

Increasing importance of intra-industry trade

Introduction








Conclusions


Dixit-Stiglitz demand International Trade & the World Economy; Charles van Marrewijk

If there are N (= ‘large’) different varieties of manufactures

And the utility function is: 10;/1

1

N

iicU

Then, subject to the budget constraint;

the demand for a

variety, say j, is:

(discussed below)

IcpN

iii

1

1)1/(1,/

,,1

PIU

indexpricePwhereIPpc jj

resourcesonclaiml

N

i

NcNcNNccU variety

ofove

1)/1(/1/1/1

1

Characteristic is the love-of-variety effect, e.g. if ci = c for all i:

Introduction








Conclusions


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

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

a. N = 2

0

400

800

1200

1600

0.5 1

price

assumption

reality

c. N = 200

0

4

8

12

16

0.5 1

price

assumption

reality

Introduction








Conclusions


Increasing returns to scale (IRS) International Trade & the World Economy; Charles van Marrewijk

0

3

6

9

0 1 2 3 4 5

output

labo

r in

put

total labor input

average labor input

ii mxfl If the production function requires a fixed labor cost f before production starts at variable labor cost m there are IRS:

Introduction








Conclusions


Optimal pricing and zero profits International Trade & the World Economy; Charles van Marrewijk

• 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

Introduction








Conclusions


International Trade & the World Economy; Charles van Marrewijk

Belgium 5 million laborers10,000 varieties

produced, 10,000consumed

Netherlands 7 million laborers14,000 varieties


Belgium 5 million laborers10,000 varieties


Netherlands 7 million laborers14,000 varieties


a. Autarky

b. International trade10,000 varieties;

7/12 th of production

14,000 varieties;5/12 th of production


Introduction








Conclusions


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

Variety 1A

Variety NA

Variety 2B

Variety 1B

Variety 2A

Variety NB

Consumer country A Consumer country B

.

.

....

Exports from B to A

Exports from A to B

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

Intermediate 1A

Intermediate NA

Intermediate 2B

Intermediate 1B

Intermediate 2A

Intermediate NB

Producers country A Producers country B

.

.

....

Exports from B to A

Exports from A to B

Consumers country A Consumers country B

Introduction








Conclusions


Conclusions International Trade & the World Economy; Charles van Marrewijk

• 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.

Introduction Measuring intra-industry trade Dixit-Stiglitz demand Demand effects; income, price...

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