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International trade and investment summary 3
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International trade and investment summary Krugman, P.R., Obstfeld, M. and Melitz, M.J. (2018), International Trade. Theory and Policy, 11th edition Week 3
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Voorbeeld van de inhoud
CH 6 KrugmanThe Ricardian model : Production possibilities are determined by the allocation of a single
resource, labor, between sectors. This model conveys the essential idea of comparative
advantage but does not allow us to talk about the distribution of income.
The specific factors model : Includes multiple factors of production, but some are specific to
the sectors in which they are employed. It also captures the short-run consequences of trade
on the distribution of income.
The Heckscher-Ohlin model : Multiple factors of production in this model can move across
sectors. Differences in resources drive trade patterns. This model also captures the long-run
consequences of trade on the distribution of income.
Indifference curves have three properties:
1. They are downward sloping:
2. The farther up and to the right an indifference curve lies, the higher the level of
welfare to which it corresponds. An individual will prefer having more of both goods to
less.
3. Each indifference curve gets flatter as we move to the right.
The rise in welfare is an income effect; the shift in consumption at any given level of welfare
is a substitution effect. The income effect tends to increase consumption of both goods,
while the substitution effect acts to make the economy consume less C and more F.
Economic growth means an outward shift of a country’s production possibility frontier.
Biased growth takes place when the production possibility frontier shifts out more in one
direction than in the other. Reasons:
1. The Ricardian model showed that technological progress in one sector of the
economy will expand the economy’s production possibilities in the direction of that
sector’s output.
2. The Heckscher-Ohlin model showed that an increase in a country’s supply of a factor
of production will produce biased expansion of production possibilities. The bias will
be in the direction of either the good to which the factor is specific or the good whose
production is intensive in the factor whose supply has increased. Thus, the same
considerations that give rise to international trade will also lead to biased growth in a
trading economy.
→ Suppose that Home experiences growth strongly biased toward cloth, so that
its output of cloth rises at any given relative price of cloth, while its output of
food declines. Then the output of cloth relative to food will rise at any given price
for the world as a whole, and the world relative supply curve will shift to the
right, just like the relative supply curve for Home. It results in a decrease in the
relative price of cloth, a worsening of Home’s terms of trade and an
improvement in Foreign’s terms of trade.
Export-biased growth = growth that disproportionately expands a country’s production
possibilities in the direction of the good it exports.
Import-biased growth = growth biased toward the good a country imports.
→ Export-biased growth tends to worsen a growing country’s terms of trade, to
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