New Trade Theory and Me
| Mon Oct. 13, 2008 3:01 PM PDT
NEW TRADE THEORY AND ME....I've never really paid attention to the breakthroughs in trade theory for which Paul Krugman is most famous as an economist, but Alex Tabarrok explains it this way:
Consider the simplest model [of New Trade Theory]....In this model there are two countries. In each country, consumers have a preference for variety but there is a tradeoff between variety and cost, consumers want variety but since there are economies of scale — a firm's unit costs fall as it produces more — more variety means higher prices. Preferences for variety push in the direction of more variety, economies of scale push in the direction of less. So suppose that without trade country 1 produces varieties A,B,C and country two produces varieties X,Y,Z. In every other respect the countries are identical so there are no traditional comparative advantage reasons for trade.
Nevertheless, if trade is possible it is welfare enhancing. With trade the scale of production can increase which reduces costs and prices. Notice, however, that something interesting happens. The number of world varieties will decrease even as the number of varieties available to each consumer increases. That is, with trade production will concentrate in say A,B,X,Y so each consumer has increased choice even as world variety declines.
Increasing variety for individuals even as world variety declines is a fundamental fact of globalization.
The reason this caught my eye is that it turns out I'm a disciple of New Trade Theory and I didn't even know it. Last year I wrote a piece for Mother Jones about media consolidation, and even though it made me feel like a bad liberal I said that I had never been much bothered by it. Why? Because even though the absolute number of news outlets might have declined thanks to globalization, I personally had access to many more news sources than I did 30 years ago. I called this a "paradox," but apparently it's actually now conventional trade theory. So, like Monsieur Jourdain, who had been speaking in prose for forty years without knowing it, it looks like I've been a Krugmanite for mumblety-mum years without realizing it. I guess I should get out more.
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Comments
This seems to be (yet another) argument in favor of free trade. So this leaves me confused.
Won't you destroy jobs in both countries by allowing free trade?
Isn't that the main argument for opposing free trade with, for example, Columbia?
Have both Kevin and Paul K. joined the dark side?
Well, Krugman didnt create globalization and I'm sure is not the first to recognize it. He perhaps just correctly modeled it.
What I don't think is clear though is why C and Z are no longer produced. It seems to me that expansion should also decrease unit costs in these industries as well causing an expansion.
What's missing here though is the scenario where Country 1 has a competitive cost advantage so that it produces A,B,C,X,Y and Country 2 produces only Z.
As often happens there are parallels here between economics and ecology/evolution.
Biogeographers recognize 6 major world regions that used to have fairly distinct faunas and floras. Due to human intervention (intentional and not), these regions are becoming smeared together. Invasive (weedy) species are becoming cosmopolitan. Native local biodiversity is diminished. Global biodiversity is diminished. For the moment these trends "feel" compensated for by the addition of the weeds. In the long run, perhaps not.
It must be admitted that the tragedy of biodiversity globalization is emphasized by the millions of years lost when a species goes extinct, about 1 million years for mammals, more for plants and insects. Perhaps the economic extinctions are more readily re-evolved.
Submitted by bmaz (not verified) on Mon Oct. 13, 2008 3:37 PM PDT.
That is what Krugman won the Nobel for? Jeebus, I love Paul and all, but that isn't exactly the stuff of unified string theory or something. Clearly the thresholds for exceptional though are somewhat different from economics to physics.
I don't see how this applies to media consolidation. It hasn't led to greater variety at a lower cost. Sure, on tv you get more channels, but they're all showing the same set of police procedurals, sappy sitcoms, and repellent reality shows. Print media has clearly suffered - have you checked out the quality of bestselling novels lately? They're all by the same twenty people, doing the same stories again and again and again. And it's turned what used to be reliably informative news media into a propaganda machine.
Sorry, Kevin. I have to say your liberal status really does have a great big ding in it with respect to this issue.
Kevin, in case you're interested, this also accounts for the change in the politics of trade in recent years. It used to be that we were talking about trade liberalization between similar countries (e.g. EU, GATT, Canada) so we were capturing Krugman-esque benefits of lower costs and greater variety without any real distributional impact. Now we're doing trade liberalization with highly dissimilar countries (e.g. Mexico, China, India) and the gains from trade are old-school comparative advantage ones that involve changes in factor prices (e.g. wages) that have important distributional impacts. In the past it was true that trade didn't create real winners and losers beyond particular factories closing down and whatnot. Now it's quite reasonable to say that whole classes of people are net winners or losers from trade. This is why former trade stalwarts like Alan Blinder and Paul Krugman himself are starting to express doubts about further liberalization. So there's a nickel summary of one of my lectures on the topic.
Everett: This seems to be (yet another) argument in favor of free trade.
It is.
Have both Kevin and Paul K. joined the dark side?
Joined it? They never left it!
When have you seen a KD post critical of "free trade"? And Krugman, while he's since moderated his stance a bit (or just ignored the issue), used to be a fanatic for anything labeled "free trade". Look at some of his pre-NYT writing from the 1990's.
Won't you destroy jobs in both countries by allowing free trade?
You have to be careful with that argument. Any productivity improvement, as via technological change, has the potential to destroy jobs. Yet most people, including me, don't oppose it. New jobs can be created, but it takes time, and there will be losers as well as winners.
The question is always who wins, who looses, and by how much. Also, is it a long term or a temporary gain? Most trade agreements (erroneously called "free trade" agreements by propagandists) are structured to most benefit people who already have lots of money and most hurt many of those that don't.
Worst of all our so-called free trade of the last ten years has led to an enormous trade deficit that's a key factor behind the current economic mess (although you'll notice that the die-hard free traders are mysteriously quiet about that).
Submitted by Legacy on Mon Oct. 13, 2008 4:33 PM PDT.
bmaz: I'm sure the non-kindergarten version is more impressive. These kinds of ideas never sound all that amazing when they're reduced to layman's terms.
DCreader/Anonymous: Yes, I've said on several occasions that I'm basically favorable toward liberalized trade. However, like Krugman, I'm not a fanatic about it, and I've posted many times about this. Here's a fairly recent one if you're interested:
http://www.washingtonmonthly.com/archives/individual/2008_04/013498.php
DCreader: Now ... the gains from trade are old-school comparative advantage ones that involve changes in factor prices
That's not the main problem. The sort of economic analysis you're talking about assumes that trade is balanced - hardly the case. And it says that capital rich countries like the US would export capital to capital poor countries like China, when the exact opposite is true.
It also says that industries like computer chips, which are highly capital intensive but not labor intensive, would be in countries like the US. Yet Intel is building a fab in China.
The current trade regime is so far from true free trade that the usual theoretical analysis of free trade is simply not applicable. It's political and economic manipulation masquerading under the name of free trade.
What about the guy who lives right on the border and had the best of both worlds? And the guy who lived 5 miles from the border? And 100 miles?
Or, what has the guy gained who, before media consolidation, had a magic electronic screen which allowed him to tap into any and all world media, right from his desktop?
The Ten Principles of Economics, translated for the uninitiated:
Oops. Posted too soon.
The Ten Principles of Economics, translated for the uninitiated:
http://www.youtube.com/watch?v=VVp8UGjECt4
Principle 5. "Trade can make everyone better off", translated, "Trade can make everyone worse off".
Proof is in the youtube video, or at standupeconomist.com
Alex: "When have you seen a KD post critical of "free trade"?
On April 9, 2008, KD gave seven (!) reasons why he is "a lot less sympathetic than (he) used to be" to opening up trade. I'm leaving out the link to avoid moderation, but you can Google it. Among his reasons are(2) We've had sluggish wage growth for the past seven years and we're now entering (or about to enter) a recession. Yet he says in the same article (and in this one) that he generally supports free trade.
Similarly PK says on February 27, 2004,The point is that free trade is politically viable only if it's backed by effective job creation measures and a strong domestic social safety net.
So they support free trade as long as no one loses their job. But the whole point of free trade is that even more jobs are created. So it's not support of free trade at all.
But the whole point of free trade is that even more jobs are created.
In the frictionless world of econ 101 that Kevin wants everyone to study, free trade creates jobs everywhere, and these new jobs more than outweigh the jobs that are lost, and ponies and puppies prance in the wild.
And most economists want their ponies and puppies and preach econ 101.
Krugman and a few others have learned (see the standup economist) that free trade means some job creation and some job destruction and that there is no correlation between where the jobs are destroyed and where the jobs are created. And they've learned that our post-FDR society has for two decades promised jobs and job training but never delivered.
And better, some have even learned that a lot of free trade ain't that free, not when you count in the arbitraging of safe labor practices, 40 hour work weeks, child labor laws, and similar.
Kevin,
Speaking of media consolidation, there is too little discussion of the relationship between the growth of copyright and the incentive for this consolidation. It works like this: Grants of permission to use copyrighted material are hard to price. Negotiations are therefore difficult and often fail. This cost of inter-firm coordination is eliminated when copyright-holding-and-using firms merge. Therefore, tighter and longer-term copyright creates a pressure for the growth of media corporations. QED.
I think this is bad, and a less-effective blogosphere is part of the syndrome. Expanded fair-use looks like the most practical objective for policy reform.
