Factor Price Equalization Research Articles

Factor price equalization beyond a “cubic” world

The importance of factor price equalization (FPE) is widely recognized in economics. The FPE theorem states that, absent any factor intensity reversal, factor prices are equal across countries with identical technologies and product mixes. In a two-factor-two-good-two-country Heckscher-Ohlin model this is equivalent to countries’ factor endowments being contained in the diversification cone defined by goods’ factor intensities. This paper identifies a condition, stated in terms of the allocation of factor endowments across countries relative to the demand for and the factor intensities of goods, that is necessary and sufficient for FPE in a world with arbitrary number of countries, goods and factors.

The curse and blessing of fixed specific factors in small-open economies

This paper investigates how a country's specific-factor endowment affects its long-run economic performance. We build an open-economy version of the two-sector neoclassical growth model in which we introduce fixed industry-specific inputs in both activities. We show that differences in input shares between sectors can contribute to explain why nations that seem to have similar factor endowments can show very different income levels. In particular, under (productivity-adjusted) factor-price equalization, larger amounts of factors specific to the industry with a lower (larger) labor share lead the economy to enjoy larger (smaller) long-run income levels. The model can also account for overtaking episodes between countries along their development paths.

Relativity in Trade Theory: Towards a Solution to the Mystery of Missing Trade

Using OECD input output matrices consistently, we offer a tentative solution to the mystery of missing trade. First, we confirm the usual rejection of factor price equalization and identical technologies. Second, we develop a new technique to compute the factor content of trade when countries' technologies are different. Measuring factor content conventionally, we find a putative paucity of trade in these data. When factor content is measured correctly, theory predicts the direction and volume of trade more accurately. Thus measuring the factor content of trade according to the country of origin may vindicate the Heckscher-Ohlin-Vanek paradigm.

A Solution to Two Paradoxes of International Capital Flow

International capital flows from rich to poor countries can be regarded as either too low (the Lucas paradox in a one-sector model) or too high (when compared with the logic of factor price equalization in a two-sector model). To resolve the paradoxes, we introduce a non-neoclassical model which features financial contracts and firm heterogeneity. In our model, free patterns of gross capital flow emerge as a function of the quality of the financial system and the level of protection for property rights(i.e., the risk of expropriation. A poor country with an inefficient financial system but a low expropriation risk may simultaneously experience an outflow of financial capital but an inflow of foreign direct investment (FDI), resulting in a small net flow.

FACTOR PRICE EQUALIZATION IN JAPANESE REGIONS*

This paper tests factor price equalization (FPE) in Japanese regions. I found that FPE is strongly rejected, even when unobserved cross-regional differences in factor quality and productivity are considered. The wage tends to be low in labour-abundant regions specializing in labour-intensive industries. The cross-regional gap in absolute wage levels remains large, while convergence is observed during the 1990s, a period of wage declines that appeared to be related to deep import penetration. This finding of FPE violation is to be expected, given the restricted interregional labour mobility and distinctive difference in specialization patterns across regions in Japan.

The great realignment: How factor-biased innovation reshaped comparative advantage in the U.S. and Japan, 1970–1992

Recent changes in comparative advantage in the largest OECD economies contradict static Heckscher–Ohlin–Vanek theory. Japan's rising share of machinery exports and the improved comparative advantage of the USA in heavy industry were accompanied by growing scarcities of factors used intensively in these sectors. We show that under factor-price equalization, directed technical change leads to increasing specialization in goods intensive in each country's abundant factor. Testing this hypothesis with 1970–1992 export data from 14 OECD countries, we find that international comparative advantage was reshaped by biased innovation in the largest economies that increased the effective stocks of their abundant factors.

A Neo‐Heckscher–Ohlin Model of Trade with Endogenous Production Patterns*

We propose a Neo‐Heckscher–Ohlin (HO) model of trade that combines comparative endowment advantage, comparative technological advantage, international capital mobility and trade costs. Using an inframarginal approach, we produce a partition of the exogenous parameter space in a host of parameter value subsets that demarcate the various equilibrium patterns of production and trade. The results are startling! They suggest that production within the diversification cone – a key assumption of the Heckscher–Ohlin theory that is required for its core propositions (such as factor price equalisation) to hold – may only prevail on the razor's edge, or under exceptional circumstances. In addition, our findings nominate a mechanism by which improvements in transaction efficiency facilitate international trade thereby stimulating cross‐country division of labour. Contrary to other generalisations of the Heckscher–Ohlin (such as the various derivatives of the Kemp–Jones model of trade), our model does not assume a purely Ricardian character: comparative endowment advantage may determine the pattern of trade even in the presence of opposing technological differences, as long as total factor productivity coefficients adjusted for transaction efficiency and factor intensity do not confer unambiguous comparative (technological) advantage. Still, ‘intensity‐efficiency’‐adjusted comparative technological advantage supersedes factor endowments in determining the flow of trade.

China's Economic Growth 1978-2025: What We Know Today about China's Economic Growth Tomorrow

Views of the future China vary widely. While some believe that the collapse of China is inevitable, others see the emergence of a new economic superpower that increasingly poses a threat to the U.S. This paper examines the economic growth prospects of China over the next two decades. Extrapolating past real GDP growth rates into the future, the size of the Chinese economy surpasses that of the U.S. in purchasing power terms around 2010. Such extrapolations can be supported by standard growth patterns identified in economic development and trade theories (structural change, catching up, and factor price equalization). They can also be supported by an explanation of China's past GDP growth through growth of various labor variables, with a subsequent derivation of future GDP growth based on reliable information about future labor quantity and quality. China's demographic changes and economic growth have a number of implications for China and the world.

Two Dimensions of Convergence: National and International Wage Adjustment Effects of Cross‐border Outsourcing in Europe

AbstractThe paper proposes a distinction between the two dimensions of convergence—within and between countries—when analyzing the impact of cross‐border outsourcing on real wage rates in the EU‐15 and the CEEC. In the CEEC, international outsourcing has not affected the adjustment of average real wage rates at the manufacturing industry level, but it has led to a closure of the gap within a typical EU economy. Between‐country convergence is likewise fostered by cross‐border outsourcing, supporting the hypothesis that outsourcing facilitates international factor price equalization.

AN INTERVIEW WITH PAUL A. SAMUELSON

AN INTERVIEW WITH PAUL A. SAMUELSON

The Factor Content of Bilateral Trade: An Empirical Test

The factor proportions model of international trade is one of the most influential theories in international economics. Its central standing in this field has appropriately prompted, particularly recently, intense empirical scrutiny. A substantial and growing body of empirical work has tested the predictions of the theory on the net factor content of a country’s trade with the rest of the world, usually under the maintained assumptions of factor price equalization and identical homothetic preferences across trading countries (or under quite specific relaxations of these assumptions). In contrast, this paper uses OECD production and trade data to test the restrictions (derived by Helpman) on the factor content of trade flows that hold even under nonequalization of factor prices and in the absence of any assumptions regarding consumer preferences. In a further contrast with most of the existing literature, which has focused on the factor content of a country’s multilateral trade, our tests concern bilateral trade flows, thereby enabling the examination of trade flows between only a subset of countries for which quality data (relatively speaking) are available. We find that restrictions implied by the theory cannot be rejected for the vast majority of country pairs considered in our analysis.

Neoclassical growth and commodity trade

We construct a dynamic Heckscher–Ohlin model in which the initial distribution of production factors across economies makes factor price equalization impossible. The model produces dynamics similar to those of the neoclassical growth model. However, free trade prevents identically parameterized economies from achieving identical steady states. Although poor economies grow faster than rich economies during the transition to the steady state, the former do not catch up with the income per capita levels of the latter. A many-country version of the model exemplifies the open-economy neoclassical growth model's ability to produce interesting distribution dynamics of income per capita.

An extended Heckscher-Ohlin model with transaction costs and technological comparative advantage

This paper introduces technological differences and transaction costs into the Heckscher-Ohlin (HO) model and examines the HO theorem, factor price equalization theorem, the Stolper-Samuelson theorem and the Rybczynski theorem. It shows that the HO theorem can be refined, and that the factor price equalisation theorem, the Stolper-Samuelson Theorem and the Rybczynski theorem do not always hold. It also shows that transaction costs play an important role in determining the equilibrium trade pattern.

Building the Northeast Asian Community

I. Introduction: Regionalism, Globalization, and the Need for a Northeast Asian Economic Organization Asia is one of the most socio-politically divided regions in the world. Without regional cooperation,1 it faces difficulty in the world market, sometimes receiving unfair treatment. Asia contains more than half of the world's population,2 but Asian countries have a relatively small share of international organizations.3 Given these facts, it is meaningful to explore the need and legal basis for a Northeast Asian Community (NEAC), which would be an economically integrated regional trade association composed of Korea, China, and Japan.4 Within the last decade, the possibility of an East Asian regional trade agreement (RTA) or a much broader Asia-Pacific integration has been debated extensively.5 [End Page 257] Though not currently regionalized, Asia could be divided into three groups.6 In the Southeast Asian region, there is the Association of Southeast Asian Nations (ASEAN).7 ASEAN established the Asian Free Trade Area (AFTA) in 1993 and included Cambodia as its tenth member in 1999. In 1983, Australia and New Zealand organized the Australian/New Zealand Closer Economic Trade Relations Agreement (ANZCERTA) which has strengthened their cooperation with Asian countries, following the United Kingdom's entry into the European Union (EU).8 South Asia, the second regional group, is made up of India, Pakistan, Sri Lanka, and Bangladesh, whose economic contribution in Asia is relatively small. The group remains divided by religious conflicts and a contentious history. A third regional group, Northeast Asia, has the potential to develop into a similar economic community because of the increasing necessity of integration among neighboring countries. A recently proposed formation of an East Asian Economic Caucus (EAEC)9 aimed to create an extended form of ASEAN, with China, Japan, and South Korea as its core states.10 A regional community requires a certain degree of cultural homogeneity, what is sometimes called "an inherent regional civil society."11 Given the strong societal differences between Northeast and Southeast Asia, it [End Page 258] would be more workable to establish the NEAC, while Southeast Asia strengthens AFTA, than to extend ASEAN to encompass Northeast Asia.12 With the end of the Cold War, Asia-Pacific (including the Americas and Oceania) intergovernmental cooperation systems emerged from the Asia Pacific Economic Cooperation (APEC) process, in 1989. APEC is a loose organization which has regional, multilateral, and interregional characteristics.13 "The subsequent Asia-Europe meeting (ASEM) established an inter-regional dialogue system between East Asia with the European Union."14 A regional community like the EU15 established in Northeast Asia would provide several key benefits. Economically, the Northeast Asian countries would receive increased efficiency through economies of scale; increased productivity stimuli; strengthened bargaining power in the international market; and the "trade creation effect." Even though economic theory does not support such integration in every instance, a regional community, on the whole, improves its productive abilities with the creation of gains from trade. The Heckscher-Ohlin (H-O) theory (also called the factor-price equalization theorem), which is based on the theory of comparative advantage, postulates that welfare improvement within a community can be achieved through the exchange of goods created by each state's plentiful factors of production and through price equalization.16 Free trade in a regional community brings optimum allocative efficiency by use of specialized factors of production. Given an extended opportunity, the use of these specialized factors would result in economies of scale and productivity stimulation. This theory, however, is premised on [End Page 259] the idea that each country participant has different, plentiful factors of production and that these factors are homogenous. A RTA brings with it two kinds of trade effects. One is the trade creation effect: this refers to the expansion of trade with efficient suppliers inside the community. The other is the "trade diversion effect," which refers to a shift in trade from the efficient suppliers outside the community to inefficient suppliers located...

Conditions for Factor Price Equalization in the Integrated World Economy Model

AbstractThe lens condition proposed by Deardorff in 1994 has been argued not to be sufficient for factor price equalization in general. This paper shows that the lens condition is necessary and sufficient both in the two‐factor case and in the three‐good case. The results imply that two is the largest number of factors for the lens condition to guarantee factor price equalization when the number of goods and that of countries are arbitrary. A sufficient condition for factor price equalization is also given in the case where the number of goods, that of countries, and that of factors are all arbitrary.

Too Sensational: On the Choice of Exchange Rate Regimes

Too Sensational: On the Choice of Exchange Rate Regimes By W. Max Corden. Cambridge, MA: MIT Press. 2002. Pp. xiv, 274. $29.95.This volume is the 10th in the series of Ohlin lectures initiated in 1988 at the Stockholm School of Economics. This volume, like the others (the first of which was Bhagwati's 1988 lively Protectionism) is characterized by clear and imaginative thought with no equations. Corden describes his method as story telling informed by theory (p. xiii). The jacket of Bhagwati's book was a cartoon from Punch, which showed the British Prime Minister being led to free trade. My choice for the jacket of this book would have been something like The Economist's November 28, 1968, cover, which showed the heads of Charles DeGaulle, Richard Nixon, and Harold Wilson bobbing among the waves, with the caption It's much better to float. That is the message of the book for most countries: floating is better than a fixed-but-adjustable exchange rate regime, or a FBAR, to use Corden's abbreviation.Instead, the jacket of the book displays the quote from Oscar Wilde's The Importance of Being Earnest that introduced one of the chapters in an early edition of Samuelson's textbook. Cecily, you will read your Political Economy in my absence. The chapter on the Fall of the Rupee you may omit. It is somewhat sensational. Even these metallic problems have their melodramatic side. Since my introductory course in economics, I had wondered about what that quote meant. Now 42 years later, I discover that the rupee had been pegged to silver, the pound to gold, and when the price of silver plummeted in the 1870s, the rupee depreciated. Indian goods became more competitive, creating competitiveness problems for British industry, and the home charges, which India had to take to Britain, were denominated in sterling, creating fiscal problems for India. Corden notes that the more recent FBARs have also been too sensational (p. x). This is his way of saying it is important to keep exchange rates in line with fundamentals, or It's much better to float.Corden credits Ohlin with seeing clearly in 1931 the importance of adjusting the Swedish Kroner in order to stabilize the Swedish price level, yet another contribution in addition to his ideas on the factor price equalization theorem and the transfer problem, and his service as leader of Sweden's liberal party for 34 years. Corden quotes Keynes in 1923 as favoring price level stability as more important than exchange rate stability and believing that the most cogent rationale for a gold standard was the rather weak discipline argument, strapping down Ministers of Finance (p. 13).Corden reminds us of core ideas about exchange rate regimes. For example, there is Milton Friedman's point that there is a presumption that currency speculation will be stabilizing, for destabilizing speculation is unprofitable. He laments the jerkyness of FBARs. He suggests that either flexible nominal wages or inflexible real wages creates an overwhelming case for an absolutely fixed (exchange rate) regime. In the former case, exchange rate change is not needed to maintain competitiveness, and in the latter it is not useful. A peg to an individual currency is preferable to pegging to a currency basket in that the former saves transaction costs and is easier to monitor. What follows is a collection of Corden's insights that 1 found particularly interesting.Not many economists living in the real world would dispute that in the short run there is some degree of sluggishness downward of nominal wages in most, if not all, countries (p. 89). And based on overwhelming empirical evidence, Keynesian analysis and policies as presented here are still appropriate for short-to-medium-term situations (p. 90). Also, the Barro-Ricardo complication that forward-looking tax payers will offset fiscal actions is only partial at best, leaving Keynesian demandside prescriptions in tact. …

The Lens Condition with Two Factors

AbstractThe authors give a simple, constructive proof that the lens condition implies the factor price equalization condition when there are only two factors. Taking stock of the conditions under which the lens condition is equivalent to the factor price equalization condition, there are the conditions of two factors or two goods or two countries, or the condition that the rank of the factor‐use matrix is equal to the number of goods. It is shown that, in an essential sense, there are no other such conditions.

A Specific‐Factors Model with Historical Application

In 1971, Ronald Jones examined a three‐factor two‐good model under the assumption that two of the factors are specific to one sector (a different sector for each such factor). Working independently, in the same year Paul Samuelson developed a similar framework. In this paper that specification is weakened, so that only one sector (agriculture) has a specific factor (land). When land is a separable input into food production, factor price‐equalization can no longer be shown, but Stolper–Samuelson magnification is still observed, although it is weakened. An application to the abolition of the corn laws is discussed.

Similarity of endowments and the factor price equalization condition

Similarity of endowments and the factor price equalization condition

The Generalized Neoclassical Growth Model

We construct and numerically solve a dynamic Heckscher-Ohlin model which, depending on the distribution of production factors in the world and parameter values, allows for worldwide factor price equalization or complete specialization. We explore the dynamics of the model under different parameter values, and relate our theoretical results to the empirical literature that studies the determinants of countries' income per capita growth and levels. In general, the model is capable of generating predictions in accordance with the most important findings in the empirical growth literature. At the same time, it avoids some of the most serious problems of the (autarkic) neoclassical growth model.