TECHNOLOGY, GEOGRAPHY, AND
TRADEBY JONATHAN EATON AND SAMUEL
KORTUMECONOMETRICA, 2002
Elisa Katharina Orthofer February 4th, 2016
IntroductionLiterature ReviewStylized FactsMotivationThe Model/Methodology and DataCounterfactualsConclusion
OUTLINE
Ricardian Model of Comparative Advantage – early 19th century
H-O Model (Factor Proportions) – 1920s Dornbusch, Fischer, & Samuelson (1977):
“Comparative Advantage, Trade and Payments in a Ricardian Model with a Continuum of Goods”
Eaton & Kortum (2002): “Technology, Geography, and Trade”
LITERATURE REVIEW
Assumptions:
2 countries, 2 final goodsLabor as sole input in productionTechnologies differ between 2 countriesPerfect competitionNo transaction costs
THE RICARDIAN MODEL
Absolute vs. Comparative advantage (CA)CA: Country exports good in which it has the
lower relative OCCA may create gains from tradeRicardian Model not used for analysis of trade
flows anymore since it ignores crucial aspects such as Multiple countries and goods Trade in intermediates Geographic barriers
THE RICARDIAN MODEL
Concerning geography:Trade diminishes dramatically with distancePrices vary across locations
Concerning technology:Factor rewards far from equal across
countriesCountries’ relative productivities vary
significantly across industries
STYLIZED FACTS
First pair suggest geography mattersLast pair suggest technologies differEaton-Kortum (E-K) propose Ricardian model
(based on differences in technologies) with geographic barriers to capture all four facts
Model captures tension between comparative advantage and geographic barriers
MOTIVATION
Two-country D-F-S-model with continuum of goods extended to model with many countries
E-K use a probabilistic formulation of productivity differences
Show how model links bilateral trade flows to geography and prices
Trade data in manufacturers among 19 OECD countries in 1990
Finally perform counterfactual exercises
METHODOLOGY AND DATA
Differential access to technologyEfficiency varies across commodities and
countriesCost of bundle on inputs the same across
commodities within a countryConstant returns to scalePresence of geographic barriers (natural and
artificial)Perfect competition
ASSUMPTIONS OF THE MODEL
Continuum of goods z i (j)… country i’s efficiency in producing good
jc i/z i (j)… cost of producing unit of good j in
country i
Geographic barriers: iceberg cost assumption by which delivering a unit from country i to n requires producing dni units in i
Positive geographic barriers: dni > 1 for n≠iTriangle inequality: dni ≤ dnk dki
THE MODEL
Delivering unit of good j produced in i to country n:
Perfect competition implies: N…# of
countriesBuyers purchase individual goods in amounts
Q(j) to maximize utility
THE MODEL
E-K assume that country i’s efficiency in producing j is the realization of a random variable Z drawn independently for each j (remember: z i (j)…efficiency)
cost of purchasing particular good from country i in country n is the realization of random variable Pni = c idni/Z i
πni… probability that i’s price for some good the lowest
Efficiency distribution: Fi (z) = Pr[Z ≤ z]
TECHNOLOGY
T i…state of technologyReflects countries’ absolute advantageBigger T implies that high efficiency draw for
any good j more likely
Θ…technology heterogeneityLower Θ implies more variability, so more
heterogeneity: comparative advantage exerts stronger force over geographic barriers
TECHNOLOGY
Ф…price parameter that summarizes howStates of technology Input costsGeographic barriers
determine prices in each countryTwo extremes:
Zero-gravity (dni = 1 for all n and i), ф same everywhere
Autarky (dni ∞)
PRICES
Xni/Xn…fraction of n’s expenditure on goods from country i
Importer’s total purchases Xni
Exporter’s total sales Q i
TRADE FLOWS AND GRAVITY
Model implies connection between trade flows and prices differences
Country i’s share in country n relative to i’s share at home (normalized import share):
As comparative advantage weakens, normalized import shares become more elastic
Measured with data on bilateral trade in manufactures (342 observations)
TRADE, GEOGRAPHY, AND PRICES
TRADE AND GEOGRAPHY
TRADE AND PRICES
3 equations that represent full general equilibrium:
1. Price level
2. Trade shares
EQUILIBRIUM
3. Wages
L i…number of manufacturing workers in iα…fraction spent on manufacturersβ…constant labor-inputs ratio/labor share in
costs
EQUILIBRIUM
Gains from trade in manufacturers: small countries gain more
How technology and geography determine patterns of specialization: smaller countries benefit
Role of trade in spreading benefits of new technology: distance is crucial
Consequences of tariff reductions
COUNTERFACTUALS
E-K raise geographic barriers first to autarky, then to zero-gravity level
Costs of moving to autarky < gains of zero-gravity
Manufacturing employment shrinks in the four natural manufacturers (GER, JP, SE, UK), indicating comparative advantage in manufactures
Smaller countries gain more
GAINS FROM TRADE
In the case of mobile labor, geography is irrelevant for determining labor force in manufacturing
Two basic patterns: As geographic barriers start falling,
manufacturing ↘ for smaller countries and ↗ for larger countries (cheaper inputs)
As barriers keep falling, pattern reverses and forces of technology take over
Example: Denmark and Germany
TECHNOLOGY VS. GEOGRAPHY
TECHNOLOGY VS. GEOGRAPHY
Effects on welfare following increase of technology by 20 % (US, GER)
Other countries always gain through lower prices
Overall welfare effect generally lower when countries can’t downsize manufacturing labor force
The closer a country is to the source of advance, the higher its benefit
BENEFITS OF FOREIGN TECHNOLOGY
BENEFITS OF FOREIGN TECHNOLOGY
Austr
alia
Austr
ia
Belgiu
mCa
nada
Denmark
Finlan
dFra
nce
German
yGree
ce Italy
Japan
Netherl
ands
New ze
aland
Norway
Portug
alSpa
in
Swede
n UK US
-30
-10
10
30
50
70
90
110
Effects of Improved US Technologymobile laborimmobile labor
Wel
fare
Welfare rises almost everywhere with collective removal of tariffs
If US remove tariffs unilaterally, everyone benefits except the US
Eliminating tariffs within 1990 EC: gains and losses mainly depend on labor mobility
Labor immobility: main losers are nonmembersLabor mobility: main losers Northern EC
members
ELIMINATING TARIFFS
ELIMINATING TARIFFS
Austral
iaAust
ria
Belgium
Canad
a
Denmark
Finlan
dFra
nce
German
y
Greece Ita
lyJap
an
Netherl
ands
New ze
aland
Norway
Portu
gal
Spain
Swed
en UK US
-1.00
-0.80
-0.60
-0.40
-0.20
0.00
0.20
0.40
0.60Effects of Removing all Tariffs on Intra-EC trade
mobile labor
immobile labor
Aggr
egat
e W
elfa
re
Comparative advantage creates potential gains from trade
Extent of gains limited by geographic barriersTrade allows country to benefit from foreign
technological advances Country must be near the source of advance Possibility of reallocating its labor outside
manufacturing
CONCLUSION