On the choice between capital and labour mobility

Abstract

Trade theorists, since the pioneering work of Kemp (1966). have considered the question of national advantage from international factor mobility by considering only one factor to be so mobile. Kemp analyzed elegantly the question of optimal policies in 2 x 2 x 2 model and showed that, since monopoly power could exist in both the goods and factor markets in consequence of international capital mobility, the optimal policy intervention would generally involve two policy instruments: tariffs (-cum-subsidies) on goods and duties(-cum-subsidies) on international capital flows. Jones (1967) subsequently extended Kemp’s argument to the secondbest context by examining the optimal level of one of these instruments when the other was arbitrarily set at zero. Elsewhere in this issue, Brecher (1983) shows, in an elegant and original contribution, that the Jones policy problem is, in fact, a third-best, rather than a second-best, problem, as generally believed, and that if only one of the tariff and capital mobility taxes(-cumsubsidies) can be used, it is generally possible to improve welfare further by admitting an altogether different, domestic policy instrument: namely a production or consumption tax-cum-subsidy, as the case may be.’ *The research of Bhagwati was supported by the German Marshall Fund Grant No. l-34015. The problem analyzed in the paper was posed in Bhagwati (1979) and an early ingenious and neglected analysis in Ramaswami (1968) was noted by Bhagwati. We have profited greatly from these contributions; also from reading Webb (1970), Ramaswami (1970) and a recent paper of Calvo and Wellisz (1983) on this problem. ‘This result is in consonance with the results of Bhagwati, Ramaswami and Srinivasan (1969) for the case without international capital mobility; but the consonance is ‘intuitive’ only after the result was established for the case with international capital mobility.