INTERNATIONAL ECONOMIC POLICY AND DEVELOPMENT AA 2019-2020 NEW and (OLD NEW) TRADE THEORIES PROF. PIERLUIGI MONTALBANO [email protected] Why countries trade Unit : US DollarUSA's thousand main exports to Germany United States of America's exports to Germany Product code Product label Value in 2011 Value in 2012 Value in 2013 TOTAL All products 48779200 48354852 47442249 '87 Vehicles other than railway, tramway 6721872 7297720 6051037 '90 Optical, photo, technical, medical, etc apparatus 5828342 5858626 5996439 '84 Machinery, nuclear reactors, boilers, etc 6039220 5894851 5884932 '88 Aircraft, spacecraft, and parts thereof 5674397 5656078 5809280 '85 Electrical, electronic equipment 4441704 4176456 4265620 '30 Pharmaceutical products 2515682 2561810 2208824 '71 Pearls, precious stones, metals, coins, etc 1806466 1487383 1984524 '38 Miscellaneous chemical products 1503566 1458161 1580185 '99 Commodities not elsewhere specified 1448146 1389431 1360073 '29 Organic chemicals 1337973 1357339 1288524 '39 Plastics and articles thereof 1308694 1196360 1188499 '27 Mineral fuels, oils, distillation products, etc 1350587 1054978 863414 '12 Oil seed, oleagic fruits, grain, seed, fruit, etc, nes 352425 940514 812558 '08 Edible fruit, nuts, peel of citrus fruit, melons 434239 466485 649739 '70 Glass and glassware 597946 540389 563711 '97 Works of art, collectors pieces and antiques 390647 363781 360520 Inorganic chemicals, precious metal compound, '28 isotopes 565399 440523 343005 '73 Articles of iron or steel 346606 343240 334642 '33 Essential oils, perfumes, cosmetics, toileteries 283269 314646 321851 '03 Fish, crustaceans, molluscs, aquatic invertebrates nes 289951 284451 314551 '74 Copper and articles thereof 274593 305286 301160 '47 Pulp of wood, fibrous cellulosic material, waste etc 292599 309415 270139 '40 Rubber and articles thereof 332220 285797 270080 Paper and paperboard, articles of pulp, paper and '48 board 290031 269107 267940 '22 Beverages, spirits and vinegar 181023 184968 259122 USA's main imports from Germany United States of America's imports from Germany Product code Product label Value in 2011 Value in 2012 Value in 2013 TOTAL All products 100392798 110602812 116924737 '87 Vehicles other than railway, tramway 25005279 29992279 33168142 '84 Machinery, nuclear reactors, boilers, etc 20696991 22469147 22374261 '30 Pharmaceutical products 8509406 10185517 11174901 '90 Optical, photo, technical, medical, etc apparatus 8865467 8926945 9036842 '85 Electrical, electronic equipment 7657145 7849851 7808184 '99 Commodities not elsewhere specified 3212837 3492118 3717551 '29 Organic chemicals 2921629 3137577 3444239 '88 Aircraft, spacecraft, and parts thereof 1570659 1523341 2973561 '39 Plastics and articles thereof 2306547 2504781 2643734 '73 Articles of iron or steel 1646913 2156193 1913667 '38 Miscellaneous chemical products 1328337 1463370 1707361 '71 Pearls, precious stones, metals, coins, etc 1414710 903251 1209582 '40 Rubber and articles thereof 1128266 1202111 1200480 Inorganic chemicals, precious metal compound, '28 isotopes 1340807 1293421 1097083 '72 Iron and steel 1300607 1265146 1078080 Paper and paperboard, articles of pulp, paper and '48 board 936960 915384 835700 '97 Works of art, collectors pieces and antiques 462857 853995 834437 '82 Tools, implements, cutlery, etc of base metal 649169 737781 815718 '94 Furniture, lighting, signs, prefabricated buildings 600225 599737 677175 '74 Copper and articles thereof 675953 646996 626613 '76 Aluminium and articles thereof 675225 663743 619956 '32 Tanning, dyeing extracts, tannins, derivs,pigments etc 517686 566919 598737 '70 Glass and glassware 537270 546710 542178 '22 Beverages, spirits and vinegar 555586 487750 468667 '83 Miscellaneous articles of base metal 391987 440838 466874 Why do countries export and import the same goods and/or services? . The Ricardian model and the H-O model explain why countries trade but do not predict the simultaneous import and export of the same product . In those models, markets were perfectly competitive and goods are homogeneous: • many small producers of identical product not able to influence the market price . To explain trade of the same product, we need to change those assumptions The New Trade Theory New trade theory (NTT) is a collection of economic models in international trade - developed in the late 1970s and early 1980s -which focuses on the role of increasing returns to scale. “Thirty years have passed since a small group of theorists began applying concepts and tools from industrial organization to the analysis of international trade. The new models of trade that emerged from that work didn’t supplant traditional trade theory so much as supplement it, creating an integrated view that made sense of aspects of world trade that had previously posed major puzzles. The “new trade theory” – an unfortunate phrase, now quite often referred to as “the old new trade theory” – also helped build a bridge between the analysis of trade between countries and the location of production within countries”. THE INCREASING RETURNS REVOLUTION IN TRADE AND GEOGRAPHY, Prize Lecture, December 8, 2008, Paul Krugman The New Trade Theory 2 key assumptions: . Imperfect competition: monopolistic competition, duopoly, oligopoly, where producers are able to exert some control over the market price. Differentiated goods: goods are differentiated, differently from perfectly competitive markets where the goods produced are homogeneous (identical). Monopolistic competition: introduction Monopolistic competition has two key features: • The goods produced by different firms are differentiated (hence firms are able to exert some control over the price). • Firms enjoy increasing returns to scale, by which we mean that the average costs for a firm fall as more output is produced . By selling not only in the home market but also in the foreign market firms can increase their returns to scale – Note: increasing returns to scale create a reason for trade to occur when the countries are similar in their technologies and factor endowments – Intra-industry trade deals with imports and exports in different varieties of the same type of product (i.e. in the same industry) Book: Feenstra/Taylor, 2011 , International Trade,Worth Publishers ModelK e y of T monopolistic e r m competition: KEY POINTS • The monopolistic competition model assumes differentiated products, many firms, and increasing returns to scale. Firms enter whenever there are profits to be earned, so profits are zero in the long-run equilibrium. • When trade opens between two countries, the demand curve becomes more elastic, as consumers have more choices and become more price-sensitive. • Firms then lower their prices in an attempt to capture consumers from their competitors and obtain profits. When all firms do so, however, some firms incur losses and are forced to leave the market. • Additional gains from trade: • (i) lower prices as firms expand their output and lower their average costs; • (ii) more imported product varieties available to consumers. • There are also short-run adjustment costs, such as unemployment, as some firms exit the market. Conclusion: The assumption of differentiated goods allows to understand why countries often import and export varieties of the same type of good. Book: Feenstra/Taylor, 2011 , International Trade,Worth Publishers Trade under Monopolistic Competition Assumptions of the model of monopolistic competition: The first 2 assumptions are about the demand facing each firm: Assumption 1: Each firm produces a good that is similar to but slightly differentiated from the goods that other firms in the industry produce. • Each firm faces a downward-sloping demand curve for its product and has some control over the price it charges. Book: Feenstra/Taylor, 2011 , International Trade,Worth Publishers 1 Basics of Imperfect Competition Monopoly Equilibrium The extra revenue earned from selling one more unit is called the marginal revenue. FIGURE 6-1 Monopoly Equilibrium The monopolist chooses the profit-maximizing quantity, QM, at which marginal revenue equals marginal cost. From that quantity, we trace up to the demand curve and over to the price axis to see that the monopolist charges the price PM. The monopoly equilibrium is at point A. Trade under Monopolistic Competition Assumption 2: There are many firms in the industry • If the number of firms is N, then D/N is the share of demand that each firm faces when the firms are all charging the same price. • When only one firm lowers its price, however, it will face a flatter demand curve d. Book: Feenstra/Taylor, 2011 , International Trade,Worth Publishers 1 Basics of Imperfect Competition Demand with Duopoly FIGURE 6-2 (1 of 2) Demand Curves with Duopoly When there are two firms in the market and they both charge the same price, each firm faces the demand curve D/2. At the price P1, the industry produces Q1 at point A and each firm produces Q2 = Q1/2 at point B. If both firms produce identical products and one firm lowers its price to P2, all consumers will buy from that firm only; the firm that lowers its price will face the demand curve, D, and sell Q3 at point C. 1 Basics of Imperfect Competition Demand with Duopoly FIGURE 6-2 (2 of 2) Demand Curves with Duopoly Alternatively, if the products are differentiated, the firm that lowers its price will take some, but not all, sales from the other firm; it will face the demand curve, d, and at P2 it will sell Q4 at point C′. Trade under Monopolistic Competition The