Idea Transcript
ECONOMICS OF LESS DEVELOPED COUNTRIES EC3040b Spring 2017 Tutorial 3 Michael King
EC3040b Economics of Less Developed Countries
1
Outline Purpose of Tutorial • Opportunity to ask questions • Revision • Some new material Contents 1. Introduction 2. Heckscher-Ohlin 3. Heckscher-Ohlin: Numerical Example 4. Critique of HO Model 5. Question on Trade Reforms EC3040b Economics of Less Developed Countries
2
Additional Readings Required Reading 1. Barry, King and Matthews. Policy Coherence for Development: A Scoping Report for Ireland (2009) Chapters 2 and 3 http://www.tcd.ie/iiis/documents/discussion/pdfs/PCD_report.pdf Supplementary Readings 2. Caves, Frankel and Jones, World Trade and Payments (2007) Chapter 6
EC3040b Economics of Less Developed Countries
3
Introduction: Low Income Countries: GDP Growth and Merchandise Trade Low Income Countries: GDP Growth and Merchandise Trade 8
80 LIC GDP Growth
7
70
LIC Merch Trade
50
4 3
40
2
30
1 20 0 19 85 19 86 19 87 19 88 19 89 19 90 19 91 19 92 19 93 19 94 19 95 19 96 19 97 19 98 19 99 20 00 20 01 20 02 20 03 20 04 20 05 20 06 20 07 20 08
% GDP Growth Rate
60 5
Merchandise Trade % of GDP
6
10
-2
0
-1
Year
EC3040b Economics of Less Developed Countries
4
South Africa: GDP Growth and Merchandise Trade South Africa: GDP Growth and Merchandise Trade ZAF GDP Growth
7
ZAF Merch Trade
70 60
6
% GDP Growth Rate
5
50
4 40
3 2
30
1 20
19 80 19 81 19 82 19 83 19 84 19 85 19 86 19 87 19 88 19 89 19 90 19 91 19 92 19 93 19 94 19 95 19 96 19 97 19 98 19 99 20 00 20 01 20 02 20 03 20 04 20 05 20 06 20 07 20 08
0 -1
Merchandise Trade % of GDP
8
10
-2 -3
0 Year
EC3040b Economics of Less Developed Countries
5
Kenya: GDP Growth and Merchandise Trade Kenya: GDP Growth and Merchandise Trade KEN GDP Growth
8
KEN Merch Trade
60
7
40
4 3
30
2 20
1 0
10
19 80 19 81 19 82 19 83 19 84 19 85 19 86 19 87 19 88 19 89 19 90 19 91 19 92 19 93 19 94 19 95 19 96 19 97 19 98 19 99 20 00 20 01 20 02 20 03 20 04 20 05 20 06 20 07 20 08
% GDP Growth Rate
5
Merchandise Trade % of GDP
50
6
-1 -2
0 Year
EC3040b Economics of Less Developed Countries
6
Cameroon: GDP Growth and Merchandise Trade Cameroon: GDP Growth and Merchandise Trade 20
50.0
CMR GDP Growth
45.0
CMR Merch Trade
40.0 35.0
10
30.0 5
25.0 20.0
0 1
2
3
4
5
6
7
8
9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29
15.0
Merchandise Trade % of GDP
% GDP Growth Rate
15
10.0
-5
5.0 -10
0.0 Year
EC3040b Economics of Less Developed Countries
7
2. Heckscher-Ohlin Theory of International Trade • Heckscher-Ohlin Model – 2x2x2 Model has strong conclusions – Two countries that share the same technology but differ in their endowments of the basic factors of production find that free trade in commodities forces wage rates in the two countries to absolute equality.
EC3040b Economics of Less Developed Countries
8
Understanding the H-O Graphs 1. PP is the local production frontier. In the absence of trade, country produces and consumes on the PP, say point A 2. Relative prices between the two goods at point A is simply the slope of the tangent to the PP curve. The slope measures how much of one good you have to give up to obtain one unit of the other good. 3. The relative price ratios are different in the developing and developed countries reflecting the level of abundance of each factor of production. 4. When free trade is introduced, the prices equalise 5. The developing country will reallocate resources away from its costly capital intensive manufacturing sector and will specialise in more labour intensive agricultural production as can get more manufactured goods for one unit of agricultural goods 6. Production takes place where the new free trade price line meets the PP curve 7. Consumption can take place along the new price line, leading to exports and imports EC3040b Economics of Less Developed Countries
9
H-O: Trade with Variable Factor Proportions and Different Factor Endowments – Developing World
EC3040b Economics of Less Developed Countries
10
H-O: Trade with Variable Factor Proportions and Different Factor Endowments – Developed World
EC3040b Economics of Less Developed Countries
11
3. Introducing a Numerical Example of HO • aLM, aKM = fixed quantities of labour and capital required to produce one unit of manufacturing good • aLA, aKA = fixed quantities of labour and capital required to produce one unit of agriculture good • Factors of production stay at home, only goods are traded • L/K > L*/K* = home country is labour abundant • Production possibilities function for the foreign country aLAX*A + aLMX*M = L* and aKAX*A + aKMX*M = K* EC3040b Economics of Less Developed Countries
12
Numerical Example Input-output coefficients Factor Requirements per Unit of Output Labour
Capital
Agric
aLA = 3
aKA = 1
Manu
aLM = 1
aKM = 2
Endowments • Developed country has 200 units of labour and capital • Calculation: Only combination of outputs and that will fully employ labour and capital is 40 units of agriculture good and 80 units of manufactured good. Solve: 3X*A + X*M = 200 and X*A + 2X*M = 200 and get X*A = 40 and X*M = 80. EC3040b Economics of Less Developed Countries
13
Numerical Example Endowments (cont’d) • Developing country has 300 labour and 200 capital, then XA = 80 XM = 60 • Conclusion: Country with a 50% higher labour force will have a higher production of labour intensive agricultural goods and a lower output of manufactured goods. • If free trade is allowed then home country will export agricultural goods EC3040b Economics of Less Developed Countries
14
Numerical Example Domestic and International Prices • Price of manufactured good = $10 before and after trade • Home country autarky agricultural good price = $8 • Foreign country autarky agricultural good price = $12 Returns to Factors of Production (to be calculated) • w = wage rates • r = return on capital At home
Abroad
Agric
3w + r = 8
W = $1.2
Manu
w + 2r = 10
R = $4.4
Agric
3w* + r* = 12
W* = $2.8
Manu
W* 2r* = 10
R* = $3.6
EC3040b Economics of Less Developed Countries
15
Numerical Example • If trade occurs, a new equilibrium set of prices will be established that lie between the autarky price ratios. • Suppose now that the price of agricultural good is $10 under free trade • Calculation: Solve the simultaneous equations • Note that the returns to labour and capital have equalised Factor Price Equalisation under Free Trade At home
Abroad
Agric
3w + r = 10
WFT = $2
Manu
w + 2r = 10
RFT = $4
Agric
3w* + r* = 10
WFT = $2
Manu
W* 2r* = 10
RFT = $4
EC3040b Economics of Less Developed Countries
16
H-O Model: Predictions • All countries gain from trade • World output increases with trade • Countries will tend to specialize in products that use their abundant resources intensively • International wage rates and capital costs will gradually tend toward equalization • Returns to owners of abundant resources will rise relatively • Trade will stimulate economic growth as consumption can move beyond the production possibilities frontier EC3040b Economics of Less Developed Countries
17
Empirical evidence for Heckscher-Ohlin • Wages have not equalised with LDCs • Weak empirical evidence supporting theory • But is all labour comparable? • Same industries use different technologies • Many more advanced models have been proposed and tested empirically EC3040b Economics of Less Developed Countries
18
4. Critique of Heckscher-Ohlin •
The following assumptions of the Neoclassical model must be scrutinized: 1. Fixed resources and full employment (and International factor immobility) 2. Fixed, freely available technology (and consumer sovereignty) 3. Internal factor mobility and perfect competition 4. Governmental non-interference in trade 5. Trade gains accruing to nationals
EC3040b Economics of Less Developed Countries
19
Critique of Assumption 1 • Fixed Resources, Full Employment (and International Factor Immobility) – Factors of production are not fixed in quantity or quality (in particular for capital, education, scientific capabilities) – Endogeneity: Some high skill endowments can be determined by trade rather than the other way around – Assumption of full employment violates the reality in developing countries – Un- and under-employment means a developing country can expand production at little or no cost – North-South trade models points to the opposite result due to • • • •
External economies in manufacturing output Rise in monopoly power Differential income elasticities of demand Capital mobility
EC3040b Economics of Less Developed Countries
20
Critique of Assumption 2 • Fixed, Freely Available Technology (and Consumer Sovereignty) – Synthetic substitutes have replaced developing country exports in many commodities such as rubber, wool, cotton, jute etc • 1950-1980 the share of natural rubber in total rubber consumption fell from 62% to 28%
– The power of multinationals (and their marketing budgets) undermines the assumption of fixed and independent consumer tastes
EC3040b Economics of Less Developed Countries
21
Critique of Assumption 3 • Internal Factor Mobility, Perfect Competition, and Uncertainty: – Assumes that developing countries can adjust their economic structures easily – difficult in practice – Increasing returns and exercise of monopolistic control over world markets – countries to industrialise first are able to take advantage – Risk and uncertainty inherent in international trading arrangements make specialisation a risky when poor
EC3040b Economics of Less Developed Countries
22
Critique of Assumption 4 • The Absence of National Governments in Trading Relations – Definite role for State – Industrial policy is crafted by governments – Commercial policies instruments (tariffs, quotas) are state constructs – International policies can result in uneven distribution of gains from trade – Despite the WTO, there is no international organisation to protect the interests of weaker countries EC3040b Economics of Less Developed Countries
23
Critique of Assumption 5 • Trade gains accruing to nationals – Enclave economies are promoted by trade – Difference between GDP and GNI becomes important
EC3040b Economics of Less Developed Countries
24
5. Trade Reform Recommendations •
What international trade reforms or developing country trade strategies would you recommend to improve trade outcomes for developing countries?
EC3040b Economics of Less Developed Countries
25
Policy Coherence for Development
EC3040b Economics of Less Developed Countries
26
Seeking to Eliminate Policy Inconsistencies
EC3040b Economics of Less Developed Countries
27
EC3040b Economics of Less Developed Countries
28
Identifying Opportunities for Policy Enhancement for Development
EC3040b Economics of Less Developed Countries
29
Developing Mitigation Policies to Overcome the Adverse Effect of Non-Aid Policies
EC3040b Economics of Less Developed Countries
30
Ensuring Consistency in Advocacy for Development
EC3040b Economics of Less Developed Countries
31
Questions?
EC3040b Economics of Less Developed Countries
32