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Demand Pattern Hypothesis: Linder Explanation of International Trade

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Demand Pattern Hypothesis: Linder Explanation of International Trade DEMAND PATTERN HYPOTHESIS: LINDER EXPLANATION OF INTERNATIONAL TRADE THESIS SUBMITTED FOR THE DEGREE OF DOCTOR OF PHILOSOPHY IN ECONOMICS Uritfer the Supervision of Prof. Mrs. Kishvi/ar Shabbir Khan HEAD. Department of Economics By BANKEY L SHARMA ALIGARH MUSLIM UNIVERSITY ALIGARH (INDIA) 1976 T1775 ABSTRACT .<>.' The major branches of international economics include international monetary economics and the theory of international trade generally described as the pure theory of trade. The former deals with the process of adjustment in the balance of payment while the latter handles the "conditions of eq.uilibrium in the 'real' magnitude." The pure theory of trade concentrates on the volume, terms, direction and the structure of trade. Its positive and normative concerns, obser\red Schumpeter, were the "miost important exploits" that gave birth to classical welfare economics. It seems to possess inherited complacency of turning inwaird for refinements rather than outward to the developments in compatible fields. Despite refinements and a variety of newer trade versions, the comparative advantage still serves as an undercurrent. The present study was designed to analyse the important theories of trade and examine some interesting post-Leontlef-exercise trade versions. The Ricardian comparative (cost) advantage and the Heckscher- Ohlinian factor proportion versions of trade together with the "availa­ bility" theory and the "product life cycle" account of trade received attention. However, the unorthodox preference similarity proposition of trade by Staffan Burenstam Linder became the study focus. Flavored with the ingredients of monopolistic competition, the percapita income based preference similarity proposition advocates trade intensity between trading partners exhibiting similar demand structures. The preference similarity, therefore, subjects i:-ilf to 1^ dual interpretation representing (i) the demand structure similarity among the trading nations, and (ii) the increased trade flow result­ ing from the percapita Income based preference similarity. The latter version implies that the distance in terms of percapita income of the trading partners functions as a resistance variable. To test its statistical validity, Hypothesis K, that "the percapita income differen­ tials and trade intensity bear inverse relationship" was formulated. Hufbauer statistically investigated the first version by using the following econometric model: S X. M. n m jn TI n in n jn where TI = the trade intensity index reflecting trade structure X. = exports of commodity "n" as a percentage m of country i's total exports, and M. = imports of commodity "n" as a percent *^ of country j's total imports. The statistical evidence generated in this study fails to support the percapita income based demand structure similarity aspect of the Linder hypothesis. On the basis of insight gained from analytical examination of various versions, the following additional hypotheses were advanced: H_ The transportation cost serves as a market barrier to the trade flow. "^ H^ The market size of the importing countiy provides stimulus to trade in manufactures. HK The percaplta Income of the nationals in the importing country — a proxy for tastes — and the trade volume move in the same direction indicating positive relationship. In order to determine the statistical validty of the hypotheses, the following double log linear econom.etric model comprising regressoirs corresponding to each hypothesis was specified. X. = X + xA. + XT). + X„Y. + X.,Y. ij 1 ij 2 ij 3 J ^ J + U. where X.. = log of the exports of manufactured goods "^ of country "i" to country "j" Y.. = log of the absolute difference of per- "^ capita incomes of the trading partners, the Linder variable D. = log of the shipping distance between •'•'' countries "i" and "j" — a proxy for the transportation cost Y. = log of the percaplta income of importing •^ country "j" Y. = log of the G.N.P. of country "j" U.. = the stochastic terra of the functional •^ relations i = 1, 1^ j = 1, .68; 1, 57 for Australia. The performance of Linder variable, in isolation or in conjunc­ tion with other variables, is below statistical acceptance level and decisively below the theory formulation strength attributed to it by Linder. The empirical evidence refutes hypothesis 1 concerning the A preference similarity proposition, and, further fails to support hypothesis 4 regarding the contribution of individual tastes. The market size, hypothesis 3» emerges as a strong trade stimulating force while the transportation cost, hypothesis 2, seems to function as a powerful trade resistance variable. xxxxxx ALISARH MUSLtH ALIG July 27, 1976 This Is to certify that this thesis is the original work of the candidate done under my supervision and is suitable for submission for the award of Ph.D. degree in Sconomics. I ., • -> "^s.) Kishwar Shabbir Khan) Prof. & Head, Department of Bconomics DEMAND PATTERN HYPOTHESIS: LINDER AN EXPLANATION OF INTERNATIONAL TRADE AJLiiliAKU. MUbLiiM UWlVEKblTX ALIGARH Bankey -J,. Sharma PREFACE "Given an opportTinity, Mr. Shaxma will contribute economic ideas" was the career opening recommendation by Prof. M.S. Khan on the admis­ sion application in 1964. It compelled me to match ray potential to his expectational level and served as a fountain of inspiration. It provided opportunity then to study alaroad and enabled me now to pursue the present study. The lack of my rich literary vocabulary or the close intimacy with the mathematical language stand in my way of expressing my grati­ tude to Prof. K. Khan in wo3?ds or q.uantify it in exactly measurable units. My limited means keep me from achieving the desired goal of finding the correct expressions. I am equally grateful to Dr. N.R.V. Murthy, my colleague, co - author and the model of mannerism who at times rescued me from sinking to the bottom of frustration. I am thankful to Dr. Lewis, Director of Computer Center, Jackson State University; Prof. Iyengar, Department of Computer Science, Jackson State University; Prof. Hoftyzer, South Carolina University; Prof. Stern, University of Michigan and Dr. Don W. Arnold, Northern Illinois University for the valuable assistance in one form or the other. I am also thankful to Miss Mims for her assistance in making copies of the final product. It would be ungrateful to ignore Lata Sharma and Pankaj Sharma who helped me a great deal in collecting raw data and feeding the processed one into the computer. Briefly, the final product is the contribution of various person­ alities while the responsibility for errors is mine. CONTENTS CHAPTER I INTRODUCTION 1 Classification of Trade Theories 1 Hypotheses 3 Scope and the Organization 6 CHAPTER II COMPARATIVE (COST) ADVANTAGE 10 Theoretical exposition , , 10 Critical Appreciation 13 Empirical Evidence .18 CHAPTER III FACTOR PROPORTION ACCOUNT OF TRADE 2? Introduction 2? Linear Homogeneous Production Function 28 Factor Intensity 32 (a) Physical Definition 32 (b) Price Definition >*• Heckscher-Ohlin Theorem 40 Critical Appreciation. 43 CHAPTER IV RECENT TRADE THEORIES 53 A- Availahility Theory ( Kravis) 53 (a^ Natural Resource Component........ 5'*' (h) Technological Progress 58 (c) Product Differentiation 59 Critical Appreciation and Empirical Evidence 59 B- Product Life Cycle Theory 62 (a.) New Stage 63 (h) Maturing Stage 64 (c) Standard Product .64 Critical Appreciation and Empirical Evidence 65 CHAPTER V LINDERs PREFERENCE SIMILARITY THEORY 71 Graphical Exposition 75 Critical Appreciation 77 Domestic Demand- Graphical Demonstration. 81 CHAPTER VI PREFERENCE SIMILARITY PROPOSITION 85 Evidence and Investigation 85 A- Empirical Evidence s Demand Structure Similarity ...86 B- Percapita Income Based Trade Intensity .8? (a^Llnder- Import Propensity Matrix...87 (b)Hirsh-Lev Study 88 (c)Sailor-Qureshi-Cross Study 91 (d)Hoftyzer Study 93 (e)Sharma-Murthy Study 9^ C- Empirical Investigation. 96 (a)Model Specification .96 ("b)Sample Size 100 (c)Data Sources 102 Test: Preference Similarity Hypothesisl03 Test: Competing Trade Hypotheses Ill (a^ Llnder Variable 115 (b) Distance Variable 115 (c) Percapita Income Variable 11? (d) G.N.P. Size 11? (e) Comprehensive Treatment II8 CHAPTER VII CONCLUSION 125 APPENDICES 136 A- Australia 136 B- Belgixun-Lexumbourg 139 C- Canada 1^2 D- Denmark 1^5 E- France IW F- Germajiy 151 G- Italy 154 . H- Japan 157 I- Netherland I60 J- Norway I63 K- Spain I66 L- Sweden I69 M- United Kingdom 172 N- United States 175 BIBLIOGRAPHY 178 TABLES TABLE 1 Synopsis of the Theories of International Trade 3 TABLE 2 Empirical Verification of the Strict Ricardian Hjrpothesis 21 TABLE 3 Labor Productivity Ratios and Export Price Ratios (United States/United Kingdom) for 1937 and 1950 22 TABLE 4 Labor Productivity Ratios, Export Price Ratios, Unit Labor Cost Ratios and Wage Rates Ratio (United States/United Kingdom) for 1950 23 TABLE 5 Relationship Between Labor Productivity Ratios and Export Price Ratios 25 TABLE 6 Relationship Between Unit Labor Cost Ratios and Export Price Ratio 25 TABLE 7 Critical Values of w/r and the Corresponding K/L ....45 TABLE 8 Ranking of Industries by Capital Intensity 46 TABLE 9 Domestic Capital and Labor Requirement Per-million Dollars of U.S. Export and of Competitive Import Replacements .49 TABLE 10 Prewar Ratios of Output Per Worker Weekly Earnings, Wage Costs, and Exports, U.S. to U.K., Selected Industries 56 TABLE 11 Coefficient of Variation for Changes in Income and Coefficient of Correlation for Consumption-Income Function for the Selected Countries
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