Transcript If growth increases the willingness to trade of a large country, then

Chapter 7:
Growth and Trade
McGraw-Hill/Irwin
©2012 The McGraw-Hill Companies, All Rights Reserved
This chapter has two major objectives.
It shows how the Heckscher-Ohlin
model can be used to analyze
economic growth and its impact on
international trade.
It examines additional aspects of
technological progress and its
relationship to international trade.
 Growth in a country's production
capabilities shifts the country's
production possibilities curve out.
 Growth is balanced if the PPC shifts
out proportionately.
 Balanced growth could occur
because all factors are growing at
similar rates, or because production
technology is improving at the same
rate in both sectors.
Growth is biased (unbalanced) if the
outward shift in the PPC is skewed, so
that the growth favors producing more
of one product than the other.
Biased growth could occur if one
factor is growing more quickly than the
other, or if production technology is
improving more in one sector than the
other.
Figure 7.1 Balanced and Biased
Growth
Copyright 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
7-5
• One example of very biased
growth is growth in only one
factor, the other factor
unchanged. While the entire PPC
shifts out, the growth is strongly
biased in favor of the product
that uses the growing factor
intensively.
FigureExports
7.2 Single-Factor
Growth:
Plus Imports
as aThe
Rybczynski
Theorem
Percentage
of GDP
Copyright 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
7-7
 The Rybczynski theorem indicates that, if
product prices are constant, then the
output quantity of the product that uses
the growing factor intensively will
increase, while the output quantity of the
other product must contract.
 The reason is that expanding production
of the intensive good also requires some
of the other factor. This amount of the
other factor must be drawn from the other
industry, so its output declines (the
concept of the “Dutch disease”).
• Growth that is balanced or biased
toward producing the exportable
product is likely to increase the
country's willingness to trade.
• Growth that is sufficiently biased
toward producing more of the
importable product will reduce the
country's willingness to trade.
• If the country is a large country, then changes in
its willingness to trade change the equilibrium
international price ratio.
• If the growth reduces the country's willingness
to trade, then the reduced supply of exports and
the reduced demand for imports results in an
increase in the equilibrium relative price of the
country's exportable product.
• The well-being of the country increases for two
reasons—the country's production capabilities
increase, and its terms of trade improve.
Figure 7.3 Growth Biased Toward
Replacing Imports in a Large Country
Copyright 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
7-11
 If growth increases the willingness to trade of a
large country, then the increased supply of
exports and the increased demand for imports
results in a decrease in the equilibrium relative
price of the country's exportable product.
 If the price does not change by too much, then
the country's well-being is higher—but the
increase in well-being is less than it would be if
the country's terms of trade did not deteriorate.
 If the price ratio changes by a lot then
immiserizing growth is possible—growth that
expands the country's willingness to trade causes
such a large decline in the country's terms of trade
that the well-being of the country declines.
 The loss from the decline in the terms of trade is
larger than the gain from the larger production
capabilities. This is more likely if the growth is
strongly biased toward producing more of the
exportable product, foreign demand for the
country's exports is price inelastic, and the
country is heavily engaged in international trade.
2.2 The Market
Figure Figure
7.4 Immiserizing
Growth for
in a Large
Motorbikes: Demand
Country and Supply
Copyright 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
7-14
 Openness to international trade can also increase a
country’s growth rate.
 Imports can speed diffusion of new production
technology into a country, through imports of
advanced capital goods and, more generally,
through greater awareness of new foreign
technology.
 Openness to trade can also place additional
competitive pressure on domestic firms to develop
and adopt new technology, and export sales can
increase the returns to their R&D activities.
 According to the “new growth theory,” these
increases in the country’s current technology base
can enhance ongoing innovation, resulting in a
higher ongoing growth rate.