Chapter 12 International Trade Theory and Development Strategy Copyright © 2009 Pearson Addison-Wesley All rights reserved Globalization: An Introduction • Globalization- many interpretations • Core economic meaning- the increased openness of economies to international trade, financial flows, and foreign direct investment • Concerns with globalization center around the unevenness of the process Copyright © 2009 Pearson AddisonWesley All rights reserved 12-2 International Trade and Finance: Some Key Issues • Many developing countries rely heavily on exports of primary products with attendant risks and uncertainty • Many developing countries also rely heavily on imports (typically of machinery, capital goods, intermediate producer goods, and consumer products) • Many developing countries suffer from chronic deficits on current and capital accounts which depletes their reserves, causes currency instability, and a slowdown in economic growth Copyright © 2009 Pearson AddisonWesley All rights reserved 12-3 Figure 12.1 Nonfuel Primary Commodity Prices, Nominal and Real, by Commodity Group, 1960-2005 (2000 index = 100) Copyright © 2009 Pearson AddisonWesley All rights reserved 12-4 Figure 12.1 Nonfuel Primary Commodity Prices, Nominal and Real , by Commodity Group, 19602005 (2000 index = 100) (continued) Copyright © 2009 Pearson AddisonWesley All rights reserved 12-5 Five Basic Questions about Trade and Development • How does international trade affect economic growth? • How does trade alter the distribution of income? • How can trade promote development? • Can LDCs determine how much they trade? • Is an outward-looking or an inward-looking trade policy best? Copyright © 2009 Pearson AddisonWesley All rights reserved 12-6 The Importance of Exports to Different Developing Nations • Importance of exports to developing nations • Exports of LDCs are much less diversified than those of developed countries Copyright © 2009 Pearson AddisonWesley All rights reserved 12-7 Table 12.1 Merchandise Exports in Perspective: Selected Countries, 2005 Copyright © 2009 Pearson AddisonWesley All rights reserved 12-8 Demand Elasticities and Export Earning Instability • Low income elasticity of demand for primary products • Low price elasticity of demand and supply • Export earnings instability Copyright © 2009 Pearson AddisonWesley All rights reserved 12-9 The Terms of Trade and the Prebisch-Singer Thesis • Total export earnings depend on: – Total volume of exports sold AND – Price paid for exports • Prebisch and Singer argue that export prices fall over time, so LDCs lose revenue unless they can continually increase export volumes • Prebisch and Singer think LDCs need to avoid a dependence on primary exports Copyright © 2009 Pearson AddisonWesley All rights reserved 12-10 Trade Strategies for Development: Export Promotion versus Import Substitution • Chronic payments deficits can be ameliorated by a currency devaluation – Difference between depreciation and devaluation – Higher import prices result in an inflationary wage-price spiral – Distributional effects Copyright © 2009 Pearson AddisonWesley All rights reserved 12-36 Trade Optimists and Trade Pessimists: Summarizing the Traditional Debate • Trade pessimist arguments – Limited growth of world demand for primary exports – Secular deterioration in terms of trade – Rise of “new protectionism” • Trade optimist arguments – Trade Liberalization promotes competition and efficiency – Generates pressure for product improvement – Accelerates overall growth Copyright © 2009 Pearson AddisonWesley All rights reserved 12-37 Trade Optimists and Trade Pessimists: Summarizing the Traditional Debate • The industrialization strategy approach to export policy – Focus on government interventions to encourage exports (industrial policy) – Without proper attention to incentives, industrial policies may be counterproductive too (South Korean case) – WTO rules and industrial policies – Competence and political authority of governments Copyright © 2009 Pearson AddisonWesley All rights reserved 12-38 Reconciling the Arguments: The Data and Consensus • Neither the trade optimists nor the trade pessimists are always right • There are many factors that determine whether trade is good or bad for a country Copyright © 2009 Pearson AddisonWesley All rights reserved 12-39 South-South Trade and Economic Integration: Looking Outward and Inward • Economic Integration: Theory and Practice – The growth of trade among developing countries – Integration encourages rational division of labor among a group of countries and increases market size – Provides opportunities for a coordinated industrial strategy to exploit economies of scale – Trade creation – Trade diversion Copyright © 2009 Pearson AddisonWesley All rights reserved 12-40 South-South Trade and Economic Integration: Looking Outward and Inward • Regional trading blocs (economic unions) and the globalization of trade – NAFTA – MERCOSUR – SADC – ASEAN – Local conditions matter – Do blocs promote growth or retard the progress of globalization Copyright © 2009 Pearson AddisonWesley All rights reserved 12-41 Trade Policies of Developed Countries: the Need for Reform • Rich-nation economic and commercial policies matter for LDCs – Tariff and non-tariff barriers to LDC exports – Adjustment assistance for displaced workers – General impact of economic policy • 1995 Uruguay Round and WTO • Despite liberalization rounds over 50 years trade barriers remain in place in agriculture and textiles • Doha Development Round 2001 has tilted the focus on the needs of the developing world Copyright © 2009 Pearson AddisonWesley All rights reserved 12-42 Figure 12.6 Effective Tariff Faced by Income Groups, 1997-1998 Copyright © 2009 Pearson AddisonWesley All rights reserved 12-43 Case Study: Taiwan Copyright © 2009 Pearson AddisonWesley All rights reserved 12-44 Concepts for Review • Absolute advantage • Autarky • Balanced trade • Barter transactions • Capital account • Collective self-reliance • Commodity terms of trade • Common Market • Comparative advantage • Current account • Customs Union • Depreciation • Devaluation • Dual exchange rate • Economic Unions Copyright © 2009 Pearson AddisonWesley All rights reserved 12-45 Concepts for Review • Effective Rate of Protection • Enclave economies • Flexible exchange rate • Exchange Control • Export dependence • Export earnings instability • Factor endowment trade theory Copyright © 2009 Pearson AddisonWesley All rights reserved 12-46 Concepts for Review (cont’d) • Factor mobility • Factor-price equalization • Growth poles • Import substitution • Foreign-exchange earnings • Free trade • Income elasticity of demand • Income terms of trade • Gains from trade • General Agreement on Tariffs and Trade (GATT Globalization • Increasing returns • Industrial policy • Industrialization Strategy Approach Copyright © 2009 Pearson AddisonWesley All rights reserved 12-47 Concepts for Review (cont’d) • Infant industry • International commodity agreements • Inward-looking development policies • Managed float • Monopolistic market control • Multi-Fiber Arrangement (MFA) • New protectionism • Nominal rate of protection • Nontariff trade barriers • North-south trade models • Official exchange rate • Oligopolistic market control Copyright © 2009 Pearson AddisonWesley All rights reserved 12-48 Concepts for Review (cont’d) • Outward-looking • development policies • • Overvalued exchange rate • • Parallel exchange rate • • Prebisch-Singer thesis • • Price elasticity of demand • • Primary products • Product Cycle • • Quotas • • Regional trading bloc • Copyright © 2009 Pearson AddisonWesley All rights reserved Rent Returns to scale Risk Specialization Subsidies Synthetic substitutes Tariffs Trade creation Trade deficits 12-49 Concepts for Review (cont’d) • Trade diversion • Trade liberalization • Trade optimists • Trade pessimists • Uncertainty • Undervalued exchange rate • Uruguay Round • Vent-for-surplus theory of international trade • Wage-price spiral • World Trade Organization (WTO) • Value added Copyright © 2009 Pearson AddisonWesley All rights reserved 12-50 ... reserved 12- 8 Demand Elasticities and Export Earning Instability • Low income elasticity of demand for primary products • Low price elasticity of demand and supply • Export earnings instability Copyright... risks and uncertainty • Many developing countries also rely heavily on imports (typically of machinery, capital goods, intermediate producer goods, and consumer products) • Many developing countries... Nonfuel Primary Commodity Prices, Nominal and Real, by Commodity Group, 1960-2005 (2000 index = 100) Copyright © 2009 Pearson AddisonWesley All rights reserved 12- 4 Figure 12. 1 Nonfuel Primary Commodity