Refresher lecture
September 4, 2022 8:39 PM
Title: Ricardian theory, HOS theory, Melitz theory and firm differentials,
Ricardian trade theory
• Countries trade because of differences in technology
• Regardless of having absolute advantages, a country would still trade because of
comparative advantages
• Wages are determined by absolute advantages
• Product of specialization is determined by absolute advantages
• Countries would completely specialize in producing the product with the lower
opportunity cost
• It works because consumers look for the lowest price (law of one price)
Hecksher Ohlin model (factor endowment)
• Many similarities w/ Ricardian model but it explains trade happens due to factor
endowments
• HOS makes different assumptions but also makes the case for trade due to differences
• Trade enhances global welfare
• With free trade:
• K-rich countries export K-intensive goods. Ditto for L as a factor.
• Demand for imports increases production
• Demand of production increases factor used in export industry
• Relative price of factors converge across trading countries (Factor Price
Equalization - FPE)
• There are gains of trade in terms of welfare
Melitz model and firm protagonist
• Does not assume constant returns to scale any longer (as opposed to both of the former)
• Increasing returns to scale or monopolistic competition help decipher better today's
trade reality
○ Some firms have economies of scope and scale, allowing them to have
increasing returns to scale (decreasing average costs)
• There are large differentials across industries between exporters and non-exporters
• Because firms are not identical, some will be better able to conquer the market
Money Matters
• Prices are not only determined by technology/factor endowment or strategic firm
interaction, but also by monetary factors (i.e.: exchange rates)
• Any monetary factors that affect money supply or demand affects international
prices and exchange rates
Summary:
FDI Page 1
, Lecture 1
September 6, 2022 11:03 AM
Title: Globalization
Globalization, what is it?
HD theory and • Theory vs. Practice:
practice diverge in
views about trade • Theory: Textbooks say that globalization is beneficial (welfare enhancing) because it
impacts? allows division of labor and specialization.
• Practice: governments face challenges to maximize gains of trade but minimize
their losses (i.e.: trade exposure decreasing employment)
WR the 2 waves of • Globalization is not a new phenomenon, though it has accelerated.
globalization? • 1st wave: Modern globalization started around 1800s.
• 2nd wave: started since 1950s
• Driven by a steady decline in the cost of moving goods, people, capital and
ideas. Supported by GATT/WTO.
• Integrated world started global competition.
• Interdependence on trade and capital flows.
• Economic effects: convergence in commodity prices, reshuffling of
resources , changes in incomes and output.
WI globalization?
Was the silk/spice • Globalization is international trade with competition
trade globalization? • If there is no domestic alternative, there is no domestic competition so it cannot be
Why (not)? globalization (i.e.: Silk and spices trade was not globalization because there were no
Is globalization domestic producers. It was just international trade)
beneficial?
• Globalization is beneficial. Why else would you do it?
WR some types of • Varieties of globalization:
globalization? • Cultural: set of universal cultural variables and the extent to which these displace
embedded national cultures.
• Institutional: spread of “universal” institutional arrangements and common
practices.
• Geographical: compressed time and space as a result of reduced travel time
between locations and the rapid exchange of information.
• Economic: decline of national markets and the rise of global markets as the firm’s
focal point for output and input.
• causes convergence of (factor) prices.
WR the 3 consequences
of globalization? Consequences & Stylized facts
1. Consequence I: Trade flows become global (tiny cost differences have large consequences)
WD global trade flows
mean for competition? • Stylized facts:
• Transport costs and price differences are indeed decreasing, but not
HD the stylized facts disappearing.
support/oppose this • Trade is becoming more important: value of exported goods as share of GDP
consequence?
(transport costs, is increasing.
price differences, • However, distance has not become irrelevant, even though transportation
role of distance) costs have declined.
▪ Prices have not converged, even though political barriers (tariffs) have
declined
□ Regional trade remains the larger part of trade
Trade barriers have not disappeared:
◊ Logistics performance (i.e.: cost, delay, and
reliability) and trade facilitation bottlenecks (i.e.:
border control and transit systems with third
countries)
◊ International connectivity (i.e.: existence of regular
maritime, air, or terrestrial services)
FDI Page 2
September 4, 2022 8:39 PM
Title: Ricardian theory, HOS theory, Melitz theory and firm differentials,
Ricardian trade theory
• Countries trade because of differences in technology
• Regardless of having absolute advantages, a country would still trade because of
comparative advantages
• Wages are determined by absolute advantages
• Product of specialization is determined by absolute advantages
• Countries would completely specialize in producing the product with the lower
opportunity cost
• It works because consumers look for the lowest price (law of one price)
Hecksher Ohlin model (factor endowment)
• Many similarities w/ Ricardian model but it explains trade happens due to factor
endowments
• HOS makes different assumptions but also makes the case for trade due to differences
• Trade enhances global welfare
• With free trade:
• K-rich countries export K-intensive goods. Ditto for L as a factor.
• Demand for imports increases production
• Demand of production increases factor used in export industry
• Relative price of factors converge across trading countries (Factor Price
Equalization - FPE)
• There are gains of trade in terms of welfare
Melitz model and firm protagonist
• Does not assume constant returns to scale any longer (as opposed to both of the former)
• Increasing returns to scale or monopolistic competition help decipher better today's
trade reality
○ Some firms have economies of scope and scale, allowing them to have
increasing returns to scale (decreasing average costs)
• There are large differentials across industries between exporters and non-exporters
• Because firms are not identical, some will be better able to conquer the market
Money Matters
• Prices are not only determined by technology/factor endowment or strategic firm
interaction, but also by monetary factors (i.e.: exchange rates)
• Any monetary factors that affect money supply or demand affects international
prices and exchange rates
Summary:
FDI Page 1
, Lecture 1
September 6, 2022 11:03 AM
Title: Globalization
Globalization, what is it?
HD theory and • Theory vs. Practice:
practice diverge in
views about trade • Theory: Textbooks say that globalization is beneficial (welfare enhancing) because it
impacts? allows division of labor and specialization.
• Practice: governments face challenges to maximize gains of trade but minimize
their losses (i.e.: trade exposure decreasing employment)
WR the 2 waves of • Globalization is not a new phenomenon, though it has accelerated.
globalization? • 1st wave: Modern globalization started around 1800s.
• 2nd wave: started since 1950s
• Driven by a steady decline in the cost of moving goods, people, capital and
ideas. Supported by GATT/WTO.
• Integrated world started global competition.
• Interdependence on trade and capital flows.
• Economic effects: convergence in commodity prices, reshuffling of
resources , changes in incomes and output.
WI globalization?
Was the silk/spice • Globalization is international trade with competition
trade globalization? • If there is no domestic alternative, there is no domestic competition so it cannot be
Why (not)? globalization (i.e.: Silk and spices trade was not globalization because there were no
Is globalization domestic producers. It was just international trade)
beneficial?
• Globalization is beneficial. Why else would you do it?
WR some types of • Varieties of globalization:
globalization? • Cultural: set of universal cultural variables and the extent to which these displace
embedded national cultures.
• Institutional: spread of “universal” institutional arrangements and common
practices.
• Geographical: compressed time and space as a result of reduced travel time
between locations and the rapid exchange of information.
• Economic: decline of national markets and the rise of global markets as the firm’s
focal point for output and input.
• causes convergence of (factor) prices.
WR the 3 consequences
of globalization? Consequences & Stylized facts
1. Consequence I: Trade flows become global (tiny cost differences have large consequences)
WD global trade flows
mean for competition? • Stylized facts:
• Transport costs and price differences are indeed decreasing, but not
HD the stylized facts disappearing.
support/oppose this • Trade is becoming more important: value of exported goods as share of GDP
consequence?
(transport costs, is increasing.
price differences, • However, distance has not become irrelevant, even though transportation
role of distance) costs have declined.
▪ Prices have not converged, even though political barriers (tariffs) have
declined
□ Regional trade remains the larger part of trade
Trade barriers have not disappeared:
◊ Logistics performance (i.e.: cost, delay, and
reliability) and trade facilitation bottlenecks (i.e.:
border control and transit systems with third
countries)
◊ International connectivity (i.e.: existence of regular
maritime, air, or terrestrial services)
FDI Page 2
