A Test of the Capacity Pressure Hypothesis Within a Simultaneous Equations Model of Export Performance

Abstract

Until recently economet-ric analysis of export behavior has proceeded on the basis of single equation models, and it generally has emphasized price and income demand elasticities.' The single equation approach also has been standard in investigating the effects of of domestic demand on export performance, a topic that has figured prominently at both the theoretical and empirical levels in studies of British exports.2 Most empirical studies of the relationship between the of domestic demand and exports (hereafter referred to as the pressure effect) have used time series regressions of export volume on some combination of export price, world market prices, domestic economic activity, world economic activity, and a measure of the on domestic capacity. These studies have supported the capacity hypothesis, finding that export sales are inversely related to the on domestic capacity. The diversion of export sales to the domestic market as domestic activity intensifies is often attributed to a lower profitability of exports, and from the accompanying discussion it may be viewed as an export supply phenomenon. These studies, however, employing single equation methods, do not permit structural estimation of the impact of capacity on supply. For this reason a simultaneous equations approach is especially appropriate for studying the role of capacity on exports. The model presented in this paper consists of simultaneous supply, demand, and market clearing relations.3 The demand function relates export volume (quantity) to export unit value (considered endogenous), a unit value of world trade, the value of world trade, and to seasonal dummy variables. The supply function relates export volume to export unit value, domestic price, domestic economic capacity, to measures of domestic capacity pressure, and to seasonal dummy variables. Quarterly data are used to test the model both for the United States and for the United Kingdom. Twostage least squares, utilizing estimation methods described by Fair (1970), are employed. The results indicate that changes in the level of capacity pressure, although not the level itself, have had a negative impact on American exports. No support for the capacity effect was detected in the British case. From the point of view of technique, the findings suggest that autocorrelated disturbances should be allowed for in the estimation procedure.