Introduction
Measuring intra-industry trade
Dixit-Stiglitz demand
Demand effects; income, price elasticity , and price index
Increasing returns to scale
Optimal pricing and zero profits
Explaining intra-industry trade
An alternative interpretation: intermediate goods
Conclusions
CHAPTER 10; INTRA - INDUSTRY TRADEInternational Trade & the World Economy; Charles van Marrewijk
Explanations for trade
Classical 2. Opportunity costs 3. Comparative advantage
Neo-classical 4. Production structure 5. Factor prices 6. Production volume 7. Factor abundance
1. The world economy
New trade 9. Imperfect competition 10. Intra-industry trade
Policy
8. Trade policy
11. Strategic trade policy
12. Int. trade organizations 13. Economic integration
17. Applied trade policy modeling
Economicgeography
New interactions 14. Geographical economics 15. Multinationals 16. New goods, growth, and development
Industrialorganization
Internationalbusiness
Growth theory
Part
IPa
rt I
IP
art
III
Part
IV
18. Concluding remarks
Introduction
Measuring intra-industry trade
Dixit-Stiglitz demand
Demand effects; income, price elasticity , and price index
Increasing returns to scale
Optimal pricing and zero profits
Explaining intra-industry trade
An alternative interpretation: intermediate goods
Conclusions
CHAPTER 10; INTRA - INDUSTRY TRADEInternational Trade & the World Economy; Charles van Marrewijk
Introduction International Trade & the World Economy; Charles van Marrewijk
Objectives / key terms
Aggregation level Grubel-Lloyd index
Intra-industry trade (love-of-) Variety
Dixit-Stiglitz demand Price elasticity of demand
Internal and external scale economies Monopolistic competition
Mark-up pricing Zero profits
Avinash Dixit (1944 - )
Introduction
Measuring intra-industry trade
Dixit-Stiglitz demand
Demand effects; income, price elasticity , and price index
Increasing returns to scale
Optimal pricing and zero profits
Explaining intra-industry trade
An alternative interpretation: intermediate goods
Conclusions
CHAPTER 10; INTRA - INDUSTRY TRADEInternational Trade & the World Economy; Charles van Marrewijk
Measuring intra-industry trade (= two-way trade in similar goods) International Trade & the World Economy; Charles van Marrewijk
ii
iii Ex
ExGL
Im
Im1
Use the Grubel-Lloyd (GL) index to measure intra-industry trade:
Table 10.1 International trade between The Philippines (RP) and Japan; 1998*
SITC Exports
from RP
Imports
into RP
GL index
8 Miscellaneous manufactured articles 383,167 576,412 0.80
81 Prefabricated buildings 4,147 2,186 0.69
82 Furniture and parts thereof 42,332 6,155 0.25
83 Travel goods, handbags and similar containers 4,804 67 0.03
84 Articles of apparel and clothing accessories 115,627 3,255 0.05
85 Footwear 13,283 920 0.13
87 Prof. scientific & controlling instruments 24,091 175,018 0.24
88 Photographic apparatus 72,174 123,333 0.74
89 Miscellaneous manufactured articles 106,709 265,477 0.57
Measuring intra-industry tradeInternational Trade & the World Economy; Charles van Marrewijk
Table 10.2 Intra-industry trade, GL-index manufacturing sector 1995 (3-digit level, %)
Country World OECD 22 NAFTA East Asia Dev. Latin America
Australia 36.6 17.5 16.0 39.2 41.6
Bangladesh 10.0 3.5 1.7 3.4 8.0
Chile 25.7 10.1 11.5 3.6 47.8
France 83.5 86.7 62.7 38.7 22.9
Germany 75.3 80.1 61.2 36.2 22.8
Japan 42.3 47.6 45.7 36.1 7.0
Malaysia 60.4 48.5 57.9 75.0 10.4
Hong Kong 28.4 20.2 25.2 19.9 13.6
UK 85.4 84.0 72.5 46.6 38.6
USA 71.7 74.0 73.5 41.4 66.0
Source: NAPES website, http://napes.anu.edu.au/
Variations in extent of intra-industry trade
Measuring intra-industry tradeInternational Trade & the World Economy; Charles van Marrewijk
Intra-industry trade (2-digits)
0
1
1961 1966 1971 1976 1981 1986 1991 1996
Japan
USA
Germany
Increasing importance of intra-industry trade
Introduction
Measuring intra-industry trade
Dixit-Stiglitz demand
Demand effects; income, price elasticity , and price index
Increasing returns to scale
Optimal pricing and zero profits
Explaining intra-industry trade
An alternative interpretation: intermediate goods
Conclusions
CHAPTER 10; INTRA - INDUSTRY TRADEInternational Trade & the World Economy; Charles van Marrewijk
Dixit-Stiglitz demand International Trade & the World Economy; Charles van Marrewijk
If there are N (= ‘large’) different varieties of manufactures
And the utility function is: 10;/1
1
N
iicU
Then, subject to the budget constraint;
the demand for a
variety, say j, is:
(discussed below)
IcpN
iii
1
1)1/(1,/
,,1
PIU
indexpricePwhereIPpc jj
resourcesonclaiml
N
i
NcNcNNccU variety
ofove
1)/1(/1/1/1
1
Characteristic is the love-of-variety effect, e.g. if ci = c for all i:
Introduction
Measuring intra-industry trade
Dixit-Stiglitz demand
Demand effects; income, price elasticity , and price index
Increasing returns to scale
Optimal pricing and zero profits
Explaining intra-industry trade
An alternative interpretation: intermediate goods
Conclusions
CHAPTER 10; INTRA - INDUSTRY TRADEInternational Trade & the World Economy; Charles van Marrewijk
Demand effects; income, price elasticity , and price index International Trade & the World Economy; Charles van Marrewijk
Dixit-Stiglitz demand depends on:
• The income level I equiproportionally
• The price charged by the producer negatively
• A parameter > 1 = price elasticity of demand
• The price index P positively
Demand for a variety rises if the general price level P increases;
Each producer ignores his own impact on this price level, which is reasonable if N is ‘large’ but not if N is ‘small’ (see next slide)
Demand effects; income, price elasticity , and price index International Trade & the World Economy; Charles van Marrewijk
a. N = 2
0
400
800
1200
1600
0.5 1
price
assumption
reality
c. N = 200
0
4
8
12
16
0.5 1
price
assumption
reality
Introduction
Measuring intra-industry trade
Dixit-Stiglitz demand
Demand effects; income, price elasticity , and price index
Increasing returns to scale
Optimal pricing and zero profits
Explaining intra-industry trade
An alternative interpretation: intermediate goods
Conclusions
CHAPTER 10; INTRA - INDUSTRY TRADEInternational Trade & the World Economy; Charles van Marrewijk
Increasing returns to scale (IRS) International Trade & the World Economy; Charles van Marrewijk
0
3
6
9
0 1 2 3 4 5
output
labo
r in
put
total labor input
average labor input
ii mxfl If the production function requires a fixed labor cost f before production starts at variable labor cost m there are IRS:
Introduction
Measuring intra-industry trade
Dixit-Stiglitz demand
Demand effects; income, price elasticity , and price index
Increasing returns to scale
Optimal pricing and zero profits
Explaining intra-industry trade
An alternative interpretation: intermediate goods
Conclusions
CHAPTER 10; INTRA - INDUSTRY TRADEInternational Trade & the World Economy; Charles van Marrewijk
Optimal pricing and zero profits International Trade & the World Economy; Charles van Marrewijk
• As a result of IRS each variety is produced by single producer.
• This producer has market power and charges a monopolistically competitive price (determines the optimal price by MR = MC, taking the prices charged by the other firms [the price index P] as given).
• Because the price elasticity of demand is constant (equal to the parameter ) the mark-up over marginal costs charged by the producer is also constant.
• Firms will enter the market (producing new varieties) if profits are positive; they will exit if profits are negative.
• The number of varieties N produced is therefore determined by the zero-profit condition.
• In the Dixit-Stiglitz model the number of varieties N produced is proportional to the size of the economy as measured by the labor force
Introduction
Measuring intra-industry trade
Dixit-Stiglitz demand
Demand effects; income, price elasticity , and price index
Increasing returns to scale
Optimal pricing and zero profits
Explaining intra-industry trade
An alternative interpretation: intermediate goods
Conclusions
CHAPTER 10; INTRA - INDUSTRY TRADEInternational Trade & the World Economy; Charles van Marrewijk
International Trade & the World Economy; Charles van Marrewijk
Belgium 5 million laborers10,000 varieties
produced, 10,000consumed
Netherlands 7 million laborers14,000 varieties
produced, 14,000consumed
Belgium 5 million laborers10,000 varieties
produced, 24,000consumed
Netherlands 7 million laborers14,000 varieties
produced, 24,000consumed
a. Autarky
b. International trade10,000 varieties;
7/12 th of production
14,000 varieties;5/12 th of production
Explaining intra-industry trade
Introduction
Measuring intra-industry trade
Dixit-Stiglitz demand
Demand effects; income, price elasticity , and price index
Increasing returns to scale
Optimal pricing and zero profits
Explaining intra-industry trade
An alternative interpretation: intermediate goods
Conclusions
CHAPTER 10; INTRA - INDUSTRY TRADEInternational Trade & the World Economy; Charles van Marrewijk
An alternative interpretation: intermediate goods; Krugman International Trade & the World Economy; Charles van Marrewijk
Variety 1A
Variety NA
Variety 2B
Variety 1B
Variety 2A
Variety NB
Consumer country A Consumer country B
.
.
....
Exports from B to A
Exports from A to B
An alternative interpretation: intermediate goods; Ethier International Trade & the World Economy; Charles van Marrewijk
Intermediate 1A
Intermediate NA
Intermediate 2B
Intermediate 1B
Intermediate 2A
Intermediate NB
Producers country A Producers country B
.
.
....
Exports from B to A
Exports from A to B
Consumers country A Consumers country B
Introduction
Measuring intra-industry trade
Dixit-Stiglitz demand
Demand effects; income, price elasticity , and price index
Increasing returns to scale
Optimal pricing and zero profits
Explaining intra-industry trade
An alternative interpretation: intermediate goods
Conclusions
CHAPTER 10; INTRA - INDUSTRY TRADEInternational Trade & the World Economy; Charles van Marrewijk
Conclusions International Trade & the World Economy; Charles van Marrewijk
• Empirically observed prevalence of intra-industry trade (two-way trade in similar products) puzzled theorists.
• Intra-industry trade is measured using the Grubel-Lloyd index.
• Krugman uses Dixit-Stiglitz variety approach with monopolistic competition and IRS to explain intra-industry trade.
• Trade extends the market and raises welfare through an increases of the number of varieties available (love-of-variety).
• Alternative interpretation (Ethier) explains intra-industry trade through exchange of intermediate goods; increased specialization leads to positive production externalities.
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