This PDF is a selection from an out-of-print volume from the National Bureau of Economic Research Volume Title: International Comparisons of Prices and Output Volume Author/Editor: D. J. Daly, editor Volume Publisher: NBER Volume ISBN: 0-870-14244-5 Volume URL: http://www.nber.org/books/daly72-1 Publication Date: 1972 Chapter Title: Uses of International Price and Output Data Chapter Author: D.J. Daly Chapter URL: http://www.nber.org/chapters/c5094 Chapter pages in book: (p. 85 - 141) Uses of International Price and Output Data D. J. DALY YORK UNIVERSITY THIS paper was designed as a survey of some of the literature which has used quantitative data on international price and real income comparisons. Interest in this area grew out of a continuing study of the differences in real incomes, productivity, and the structure of relative prices between 'Canada and the United States. Some of the evidence on the Canada—United States differences and other recent empirical work on income differences for other countries was appar- ently very much at variance with the main assumptions of interna- tional trade theory. Some of the interpretations and evidence from the Canada—United States work appeared to be relevant for other coun- tries as well. Two sections will deal with the use of quantitative data on inter- country comparisons in estimating and testing some key propositions in economic growth and international trade. A number of valuable and comprehensive surveys in these areas had already been made dur- ing the 1960's, but this paper will introduce later evidence and in- corporate new concepts in three areas: It will introduce the frame- work and evidence on real output per person employed, from some of the ten industrialized countries, that have been developed by E. F. Denison, Jean-Pierre Poullier, and Dorothy Walters. Secondly, the analysis and evidence from some of the work on effective tariff rates will be introduced to provide a rationale for some of the differences in production conditions in manufacturing between countries. Thirdly, NOTE: This study has been improved by helpful comments on an earlier draft from E. F. Denison, H. G. Johnson, and Irving Kravis. 86 Theory and Uses the recent theoretical formulations by Alchian and Hirshleifer on the role of length of run and total volume of production will be related to specialization in international trade. A number of these concepts and their empirical importance have been developed as part of the con- tinuing study of the differences in real incomes, productivity, and the structure of relative prices between Canada and the United States, and some of these results to date will be drawn on. INTERNATIONAL INCOME DIFFERENCES One might have expected to find that the increased interest by economists in economic growth in the postwar period would provide a quantitative framework for studying income differences between coun- tries. However, much of the work in the area of economic growth (with special emphasis on the supply side of the economy) has been formal and theoretical, rather than empirical. When it has been empirical, it has emphasized growth in a particular country, rather than making international comparisons of economic growth experi- ence. The useful survey of economic growth by Hahn and Matthews excluded the quantitative aspects of economic growth and the relations between economic growth and international trade. They outline their scope as follows: We restrict ourselves (except for occasional references) to the theoretical literature.. Nodiscussion is presented of growth theory as applied to international trade. .. Thescope that has been chosen for the present survey reflects the increasingly formal character that has been manifested, for better or worse, in much of the literature in the period since Abramovitz's survey was written (1962).' Cohn Clark was an early pioneer in this area. Some of his ideas have had an important influence on subsequent work, such as his emphasis on the changing industrial composition of the labor force. He empha- sized the long-term decline in agriculture and mining and the long- term increase in the importance of the service industries, and pointed out that similar differences appeared in the industrial structure of 1F.H. Hahn and R. C. 0. Matthews, "The Theory of Economic Growth: A Survey,' in Surveys of Economic Theory, New York,St.Martin's Press,1965, Vol. II, pp. 1 and 2. Uses of International Price and Output Data 87 countriesat various levels of economic development.2 His comparisons of real national products in 1950 used information on relative prices for specific product groups, and the third edition incorporated the results of the first OEEC (Organization for European Economic Co- operation) study.3 His work went on from the intercountry compari- Sons of levels to emphasize the role of industrial structure and changes in it. He also included international comparisons of capital-output ratios. Simon Kuznets has also been productive in this, as in many other, areas of national income analysis. In a number of his studies of eco- nomic growth on a comparative basis he has included comparisons of international income differences. He has incorporated the results of the OEEC studies and the United Nations comparisons of calculated parity The latter were based on the 1938 official exchange rates with some adjustments for subsequent price changes in the coun- try concerned, relative to United States price changes. Other parts of his most comprehensive study also considered trends in industrial structure, distribution of product and income, international inter- dependence, and economic and social structure. One of the points he makes from the intercountry comparisons is the limited spread of modern economic growth. One of the important contributions to' the theory and estimation ôf economic growth was based on intercountry comparisons of value added in individual manufacturing Some of the assump- tions made by Arrow, Chenery, Minhas, and Solow were that prices of product and material inputs do not vary systematically with the wage level, that overvaluation or undervaluation of exchange rates is not related to the wage level, and that the same technological alternatives are available to all The data for the intercountry compari- 2CohnClark, The Conditions of Economic Progress, 3rd ed., London, Macmillan, 1957. 3Ibid.,pp. 18—74. 4SimonKuznets, Modern Economic Growth: Rate, Structure, and Spread, New Haven, Yale University Press, 1966, pp. 359—399. 5K.J. Arrow et al. (H. B. Chenery, B. S. Minhas, and. R. M. Solow), "Capital- Labor Substitution and Economic Efficiency," Review of Economics and Statistics, August '1961, pp. 225—250. 6Ibid.,pp. 227—228. 88 Theoryand Uses Sons of value added by industry were made at official exchange rates or at free market rates where multiple exchange rates prevailed.7 It should be noted that when careful comparisons of intercountry price levels are made, there are, typically, significant differences from the official exchange rates. There is also some evidence of a positive rela- tionship between per capita real GNP and the difference between purchasing power and the official exchange rates.8 Important though this study is in many respects, the quality of the underlying data on intercountry comparisons of real output by industry do not match the level of sophistication of the basic economic model on the sub- stitution between labor and capital. The most comprehensive study of economic growth using interna- tional comparisons of real income levels as a part of the analysis is the Brookings report, Why Growth Rates Differ.9 In this study, the comparisons of levels of net national product in United States prices were used as an integral part of the investigation of changes since 1950 in net national product on both a total and per employed per- son basis. In studying the wide range of individual factors that con- tribute to economic growth, the report followed the method developed by Denison in his earlier volume on economic growth in the United States.1° This distinguished between the contribution of the individual factor inputs (labor, capital, and land, with a number of breakdowns within each of those three basic factors), and output in relation to total factor inputs. More than twenty individual contributions to growth were estimated quantitatively for each country. 7 Ibid., p. 227. 8 Bela Balassa, "The Purchasing-Power 'Parity Doctrine: A Reappraisal," Journal of Political Economy, 1964, pp. 584—596, Table 1 and Figure 1 and related text. It might be noted that Balassa emphasized the intercountry differences in prices arid wages in the service industries, and the same relationship may not apply in manufacturing. This area was also discussed in the Grunwald-Salazar paper for this conference. 9 Edward F. Denison, assisted by Jean-Pierre Poullier, Why Growth Rates Differ— Postwar Experience in Nine Western Countries, Washington, D.C., Brookings Insti- tution, 1967. The same framework has been used for Canada—United States com- parisons in Dorothy Walters, Canadian Income Levels and Growth: ,4n international Perspective, Economic Council of Canada Staff Study No. 23, Ottawa, The Queen's Printer, 1968. 10 Edward F. Denison, The Sources of Economic Growth in the United States and theAlternativesBefore Us, New York, Committee for Economic Development, January 1962, Supplementary Paper No. 13. Uses of International Price and Output Data 89 Inmaking the comparisons of net national product in real terms, Denison and Poullier updated the earlier pioneering OEEC studies for the nine countries covered.1' In light of the marked changes in relative prices and relative quantities that emerged in the updating, the importance of more recent comprehensive studies of international comparisons of prices and purchasing power emerged. It would take us away from the main theme of this paper to deal with the broader ramifications of this study.12 In terms of' the use of international comparisons of prices and real incomes as part of a broader study of economic growth over time, two parts of this study should be emphasized.