Modern international economics

NORTON

Second Edition

WILFRED J. ETHIER

UNIVERSITY O F PEN NSYLVANIA

MODERN

INTERNATIONAL

ECONOMICS

Second Edition

T X T

W . W • NORTON & COMPANY

N E W YORK L O N D O N

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P H O T O G R A P H C R E D IT S

Historical Pictures Service (6)

Warder Collection (61, 337)

Swedish Information Service (102)

Harvard University Archives (294)

New York Public Library (337)

Wide World Photos (367)

Copyright © 1988, 1983 by W. W . N orton & Company, Inc.

A L L R IG H T S R E SE R V E D .

P R IN T E D IN T H E U N IT E D S T A T E S O F A M E R IC A .

The text of this book is composed in Times Roman, with display type set in

Eras Bold. Composition by New England Typographic Service, Inc.

Manufacturing by Areata Graphics/Halliday.

Book design by Jacques Chazaud.

Library of C ongress Cataloging in Publication D ata

Ethier, Wilfred.

Modern international economics / Wilfred J. Ethier. — 2nd ed.

p. cm.

Includes bibliographies and index.

ISBN 0-3^3-^555^-?

1. International economic relations. I. Title

HF1411.E824 1988 87-21762

337—dcl9 CIP

W. w. Norton & Company, IncẼ, 500 Fifth Avenue, New York, N.Y. 10110

Wệ w . Norton & Company, Ltd., 37 Great Russell Street, London WC1B 3NU

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In M e m o ry o f M y F a th e r

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Contents

P r e f a c e .yv

I n t r o d u c t i o n x i x

P a r t O n e

T h e Pure T h eo ry o f In te rn a tio n a l Trade

a n d Its A p p lica tio n 1

CHAPTER 1. C o m p a ra tiv e A d v a n ta g e 5

1. T he Sim ple R icardian Model 6

2. Efficiency in the Simple R icardian World 10

3. T he E conom ics o f the Sim ple R icardian World 14

4. T he G ain s from Trade 18

5. C ase Study: U nequal Exchange 21

6. E m pirical Testing o f the Sim ple R icardian M odel 22

7. C om parative Advantage in M ore G eneral C ircum stances 25

8. Tastes as a D eterm inant o f C om parative Advantage 29

9. *Exploring Further: Indifference Curves 32

10. N orth-S outh Trade 35

11. C ase Study: T he International Trade o f the U nited States 39

12. C ase Study: T he International Trade o f C anada 40

13. C ase Study: U .S.-Japanese Trade 41

14. C ase Study: T he N IC s and the N ECs 44

15. A lternatives to C om parative Advantage: Scale E conom ies 45

16. A lternatives to C om parative Advantage: Product D ifferentiation and

the D ivision o f L abor 50

17. A lternatives to C om parative Advantage: Oligopoly 53

18. S um m ary 57

Suggested R eading 58

C h a p t e r 2. Reciprocal D e m a n d 6 0

1. T here's N o Such T hing As a Free L unch 60

2. Im port D em and C urves 63

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3. *E xploring Further: Incom e and Substitution Effects 65

4. T he Volum e and Term s o f Trade 67

5. Elasticity 68

6. Case Study: Som e International E conom ic Problem s o f th e Less

D eveloped C ountries 71

7. Case Study: T he International T in A greem ent 78

8. Elasticity O p tim ism ” and “ Elasticity Pessim ism ": Em pirical

E stim ates 80

9. C ase Study: T he International E conom ics o f Energy 84

10. C ase Study:C o m p u ta b le G eneral E quilibrium M odels 89

11. *E xploring Further: How to D erive Im port D em and and Export

Supply C urves 92

12. *Exploring Further: Stability o f International E quilibrium 95

13. S um m ary 98

Suggested R eading 98

C h a p t e r 3. T h e Basis o f C o m p a ra tiv e A d v a n ta g e 10 0

1. T he H eckscher-O hlin-Sam uelson M odel 102

2. A Basic R elationship 105

3. T he H eckscher-O hlin T heory: C om parative A dvantage an d F actor

Prices 107

4. T he H eckscher-O hlin T heory: Incom e D istribution and

G row th 111

5. *Exploring Further: A nalysis o f th e H eckscher-O hlin-S am uelson

M odel— the Firm 115

6. *Exploring Further: A nalysis o f the H eckscher-O hlin-Sam uelson

M odel— the G eneral E quilibrium o f P roduction 119

7. *E xploring Further: A nalysis o f the H eckscher-O hlin-Sam uelson

M odel— Basic Propositions 121

8. C ase Study: T he In ternational W heat M arket 124

9. C ase Study: R elative Wage M ovem ents 126

10. C ase Study: South K orean E xperience w ith E xport-Led

G row th 127

11. T he Specific-Factors M odel 128

12. T he L eontief Paradox 132

13. Possible E xplanations o f the L eontief Paradox 134

14. E xtensions o f the H eckscher-O hlin-Sam uelson M odel 136

15. A lternatives to Factor E ndow m ents 139

16. Increasing R eturns to Scale an d Im perfect C o m petition 141

17. Testing the F actor-E ndow m ents T heory 144

18. C ase S tu d y :T he Factor C o n ten t o f A m erican Trade 147

19. C ase Study: T he Factor C o n ten t o f C anadian Trade 149

20. *E xpIonng Further M any G oods and Factors 150

21. S um m ary 152

Suggested R eading 153

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PART TW O

Fu rth er A p p licatio n s an d Extensions o f th e Pure T h eo ry o f

In te rn a tio n a l Trade 155

CHAPTER 4. Tariffs an d Trade T h e o ry 157

1. T he Tariff 158

2. C om parative Advantage and Tariffs 160

3. *Exploring Further: T he G eom etry o f Tariff Costs 163

4. Reciprocal D em and and Tariffs 165

5. Tariffs and the Factor-Endow m ents T heory 171

6. N ontariff Barriers 172

7. Tariffs with Scale Econom ies and Im perfect C om petition 176

8. C ase Study: T he Effects o f Elim inating C anada’s Trade

Barriers 182

9. C ase Study: R estrictions on Japanese A utom obile Exports to the

U nited States 183

10. Sum m ary 189

Suggested R eading 190

C H A P T E R S . C om m ercial Policy 191

1. M otives for Protection: International Econom ic Objectives 191

2. M otives for Protection: Internal E conom ic Objectives 197

3. M otives for Protection: Incom e D istribution 202

4. *Exploring Further: The Second-Best N ature o f the Tariff 206

5. Effective Protection 210

6. T he Political E conom y o f Tariffs 214

7. C ase Study: T he Tariff H istory o f the U nited States 218

8. C ase Study:E u ro p e a n C om m ercial Policy 221

9. C ase Study: C anadian Tariff H istory 223

10. C ase Study: Free Trade betw een the U nited States and

C anada? 225

11. C om m ercial Policies after the Second World W ar 226

12. Tools o f the New Protectionism 233

13. C ase Studies: Polish G o lf C arts and C anadian L um ber 236

14. C ase S tu d y : Does Japan Play Fair? 238

15. S um m ary 241

Suggested R eading 242

CHAPTER 6 . In te rn a tio n a l Facto r M o v e m e n ts 2 4 4

1. T he Basic T heory o fln te rn a tio n a l Factor M ovem ents 244

2. L abor M igration 250

3. C ase Study: R eform o f U.S. Im m igration Law 255

Số hóa bởi Trung tâm Học liệu – ĐH TN http://www.lrc-tnu.edu.vn 4. In ternational C apital M ovem ents 257

3. "Exploring Further: Intertem poral Trade 262

*Fxploring Further, Case Study: An Intertem poral Interpretation of

the D eterioration in the U.S. C urrent A ccount 265

7. T he Transfer Problem 268

8. C ase Study: G erm an R eparations and the Transfer Problem 271

9. D irect Investm ent and the M ultinational C orporation 271

10. C ase S tu d y T he G iants 277

11. Public Policy tow ard the M ultinational Enterprise 278

12. Case Study: C anadian Policy tow ard Foreign D irect

Investm ent 283

13. S um m ary 286

Suggested R eading 287

Pa r t t h r e e

In te rn a tio n a l M o n e ta ry T h e o ry

a n d Its A p p lic a tio n

C h a p t e r 7. T h e E xch an g e R ate

1. T he Balance o f Paym ents A ccounts

2. International M onetary E quilibrium

3. E xchange-R ate A djustm ent 302

4. E xchange-R ate Regim es 306

5. Exchange Regim es in Practice 307

6. In ternational C apital M obility 313

7. Portfolio Balance and the Exchange R ate 317

8. M onetary Policy and Exchange R ates 323

9. *E xploring Further: An Intertem poral View o f C apital

M ovem ents 327

10. *Exploring Further, C ase Study: A n Intertem poral Interpretation o f

the D eterioration in the U.S. C urrent A ccount 331

11. C ase Study: E m pirical E stim ation o f E xchange-R ate M odels 334

12. Sum m ary 335

Suggested R eading 335

C h a p t e r 8. Th e A u to m a tic A d ju s tm e n t Process 3 3 6

1. International M onetary E quilibrium 336

2. T he A utom atic A djustm ent Process 340

3. M onetary System s 344

4. C ase S tu d y T he G old Standard o f 1880-1914 347

5. T he Balance o f Paym ents and the D om estic Banking System 348

6. T he Rules o f the G am e and M onetary Policy 353

1. Case Study: West G erm any in the Sixties 360

8. Reserve C urrencies 361

2 8 9

293

299

2 9 3

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9. Sum m ary 364

Suggested R eading 364

CHAPTER 9. O p e n -E c o n o m y M acroeconom ics

1. Basic Incom e-E xpenditure Theory 366

2. T he D em and for Im ports 370

3. Case Study: M exico, France and O ther C ountries 372

4. T he Sim ple Foreign Trade M ultiplier 375

5. 'E xploring Further: G eneral Equilibrium 379

6. Incom e A djustm ent 383

7. T he Aggregate D em and C urve 387

8. International Price Linkages 393

9. Relative Price A djustm ent: T he Elasticity A pproach 402

10. "Exploring Further: N ontraded G oods 408

11. H oarding and D ishoarding: T he M onetary A pproach 410

12. Internal an d External Balance under Fixed Exchange Rates

13. Aggregate D em and M anagem ent with Floating Exchange

R ates 419

14. C ase Study: U.S. Experience in the 1980s 425

15. Review o f International A djustm ent 428

16. Case S tu d y :E xchange-Rate Volatility 429

17. Floating Exchange Rates 430

18. *E xploring Further: IS-LM Analysis in an O pen Econom y

19. S um m ary 440

Suggested R eading 441

Pa r t f o u r

F u rth er A pp lication s o f In te rn a tio n a l

M o n e ta ry T h e o ry 4 4 3

Ch a p t e r 10. In te rn a tio n a l M acro eco no m ic Policy

1. Policy D ilem m as 445

2. T he B retton W oods System 450

3. T he B retton W oods System in O peration 456

4. C ase Study: T he 1969 D evaluation o f the Franc 463

5. Collapse o f the B retton Woods System and After 464

6. In ternational M onetary R eform Issues 467

7. S um m ary 473

Suggested R eading 474

3 6 6

415

434

4 4 5

CHAPTER 11. In te rn a tio n a l F inan cial M a rk e ts

Số hóa bởi Trung tâm Học liệu – ĐH TN http://www.lrc-tnu.edu.vn I. T he Foreign Exchange M arket 475

2. Case Study: T he Foreign Exchange M arket and the Electronic

Age 481

3. C ase Study: T he Volume o f Foreign Exchange D ealing 482

4. T he Forw ard M arket 484

5. 'E xploring Further: Equilibrium in the Forw ard Exchange

M arket 490

6. Foreign C urrency Futures and O ptions 496

7. T he E urodollar M arket 498

8. C ase Study: T he Iranian Freeze 505

9. Should the E urocurrency M arkets Be Regulated? 506

10. C ase Study: W hat Is the E urodollar M ultiplier? 509

11. T he Efficiency o f the Foreign Exchange M arkets 510

12. International Credit M arkets 516

13. S um m ary 519

Suggested R eading 519

P a r t f i v e

Th e M o d e rn W o rld E con om y 521

C h a p t e r 12. Econom ic In te g ra tio n 5 2 3

1. T he Basic T heory o f Biased Integration 524

2. Biased Integration in Practice 530

3. C ase Study: T he Yuppie Trade W ar T hat W asn’t 534

4. C ase Study: T he E uropean M onetary System 535

5. Case Study: T he C om m o n A gricultural Policy 536

6. T he International Trade o f Centrally Planned E conom ies 53 7

7. C ase Study: T he Transferable R uble 540

8. A sym m etric Integration: East-W est Trade 541

9. C ase Study: T he Sorry State o f Poland 544

10. C ase Study: T he K am a R iver P lant and the G reat Pipeline

Im broglio 544

11. Case Study: Soviet-A m erican W heat Deals 546

12. T he LD C D ebt Problem 548

13. Sum m ary1 551

Suggested R eading 552

E p il o g u e 554

A p p e n d ic e s A-l

I. A Survey of the Pure T heory of International Trade A-3

A. 1. T he N ational Incom e o f a T rading E conom y (C hapter 1) A-3

A.2. T he N ational E xpenditure o f a T rading E conom y (C hapter 1) A-7

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A .3. International Equilibrium (C hapter 2) A -13

A.4. Factor E ndow m ents (C hapter 3) A -18

A .5. H igher-D im ensional Factor-E ndow m ents Theory* (Section 20* of

C hapter 3) A-28

A.6. Tariffs (C hapter 5) A-38

Suggested R eading A-42

II. Source M aterial in International Economics A-43

I n d e x A - 4 7

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Preface

Beware of a thick book

— RICHARD WAGNER

International econom ic issues are everywhere in the news. R um blings

(exaggerated, one hopes) o f a U .S.-Japanese trade war. the plum m eting

dollar, and other events o f the day serve to underscore the significance of

the international econom y in our lives. Like its predecessor, this Second

E dition o (M odern International Econom ics offers an up-to-date view o f the

issues, and. m ore im portantly, a system atic way to analyze them .

For the m ost part, the Second E dition continues the aim o f the First: to

present the full line o f international trade and finance topics at a level

appropriate to conventional undergraduate courses o f either one or two

sem esters in length. Those w ho used the First Edition, however, will notice

several innovations. Im perfect com petition and econom ies o f scale may

justify trade barriers where econom ists traditionally would have scoffed at

them . A lthough this possibility was addressed in the previous edition, the

very large am o u n t o f recent work calls for added em phasis: the discussion is

now m uch m ore system atic, and is an integral part o f virtually every

chapter on trade.

R ecent w ork by econom ists has also stressed the intertem poral view of

the current account. This approach is now covered in both the real and

m onetary parts o f the present edition. Discussion o f som e topics, such as

the U.S. current-account deficit, benefit greatly from an intertem poral

perspective.

W hile a textbook cannot com pete with the daily new spaper as a source

o f issues, it can begin to link up the analysis with current events. I have once

again tn ed to use the theory to illustrate the m ost pressing issues o f the day.

Perhaps m ost notable am ong the m any new issues discussed in this edition

are those relating to U .S .-Japanese trade and balance-of-paym ents

difficulties.

T he basic expositional approach o f the First Edition has been retained,

w ith tw o notable changes. First, the real and m onetary portions o f the book

are now each self-contained. T he m ore integrated approach o f the First

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Edition has becom e less useful in light of the growing practice o f teaching

independent trade and finance courses. So I have m oved som e m acroecon￾om ic m aterial from the trade to the m onetary part o f the book, and rew rit￾ten the latter to no longer assum e a knowledge o f basic trade theory. Second,

m any who used the earlier edition strongly recom m ended that im port

dem and and export supply curves replace offer curves in the treatm en t o f

trade theory. I have heeded their advice.

T he presentation continues to be alm ost entirely verbal and geom etric.

M ore advanced or specialized m aterial is provided by starred sections

labeled “ Exploring F urther." These sections contain no algebra or

advanced m athem atics, but they do on occasion m ake intensive use of

geometry. They can all be skipped w ithout loss o f continuity. T he m ath e￾m atically trained student is directed to A ppendix I. w hich provides a tech￾nical treatm ent of international trade theory, keyed to Part O ne o f the text.

A typical one-sem ester course would cover the unstarred sections o f the

core chapters (1-3, 7-9), together with w hatever the instructor wishes from

other chapters. A one-year course m ight cover the entire text and supple￾m ent it with readings. A ppendix I is suitable for graduate students an d m ore

sophisticated undergraduates.

T he m ajority o f sections are followed by a selection o f problem s. T he

problem s are arranged m ore or less in order o f increasing difficulty, and

especially challenging problem s are distinguished by asterisks. S tudents

should at least attem pt the unstarred problem s before going on to the next

section. A S tu d y G uide is available which contains the answ ers to nearly all

o f these problem s, as well as additional problem s, self-tests, detailed review

o f basic ideas, and review questions for every chapter in this text. I have also

prepared an Instructor's M anual w hich is available from the publisher.

A c k n o w le d g m e n ts

T he following econom ists read various parts o f the m anuscript and pro￾vided m any very useful suggestions.

C hristopher Bell Jorge A. Braga D eM acedo

Davidson College New U niversity o f Lisbon

A rthur I. Bloomfield Barbara J. Craig

U niversity o f Pennsylvania Virginia Polytechnic Institute

and State U niversity

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Am y H. Dalton

Virginia C om m onw ealth University

Kyung-Soo Kim

Tulane University

Slobodan Djajic

G raduate Institute o f International

Studies, G eneva

Alan V. D eardorff

University o f M ichigan

Jonathan Eaton

University o f Virginia

Charles Engel

University o f Virginia

Elizabeth G oldstein

Federal Reserve Bank o f N.Y.

T hom as G rennes

N orth C arolina State University

G unvald G r0nvik

Norges Bank

R ichard M arston

University o f Pennsylvania

Steven M atusz

M ichigan State University

Assaf Razin

Tel Aviv University

R aym ond Riezm an

University o f Iowa

M ichael Schm id

U niversität der Bundeswehr

H am burg

John Sheahan

W illiam s College

Edward Tower

D uke University

Peter K enen M ichael A. W ebb

Princeton U niversity University o f K entucky

D avid W harton

Wells College

D onald S. L am m , D rake McFeely, and Sandy Lifland, o f W. W. N orton &

C om pany, provided valuable editorial help.

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Introduction

International trade meaning in plain English trade between

nations, it is not surprising that the term should mean something

else in Political Economy. — f. y. e d g e w o r t h

Everyone know s w hat international econom ics is all about. It is about inter￾national trade and w hether we should restrict im ports o f Japanese au to m o ­

biles or K orean shoes. It is about nagging balance-of-paym ents problem s

and spectacular foreign exchange crises. It is about the gnom es o f Zurich,

the sheikhs o f Araby, and the m illions o f poor m igrants w ho are trying to

find better jo b s by leaving southern Europe for the north or the Far East for

the M iddle East or by paying som eone to smuggle them into the U nited

States. It is about m ultinational corporations larger than countries, fuel bills

that seem huge to those who m ust pay them , and autom obiles that look

sm aller th an ever before. It is about E uropean com plaints that interest rates

are too high in A m erica and A m erican com plaints th at Europe is not charg￾ing us enough for her steel.

T his book is about all these things and m any others as well. We discuss

them by developing the basic ideas o f international econom ic theory and

then putting those ideas to work. W hat m akes international econom ic

theory distinct from general econom ics? Is it perhaps really the sam e, except

for a m ore cosm opolitan term inology and distinctive practical applica￾tions? To a large extent the answ er is yes. T he basic tools, ideas, and m odes

o f thought o f general econom ics are basic to this book. But there are two key

aspects o f the subject th at m ake international econom ic theory distinct.

I. In the world econom y som e m arkets are national while others are

international. T he m ost im p o rtan t exam ple o f this feature is the assum ption

that the factors o f p roduction— land, labor, and capital— are perfectly

m obile w ithin nations but com pletely im m obile betw een nations (national

factor m arkets), w hereas com m odities can be traded both nationally and

internationally (international com m odity m arkets). T his assum ption has

characterized international trade theory since its developm ent by the clas￾sical econom ists, and the assum ption will be basic to the first three chapters

o f this book. But o f course the assum ption is not true. We can all think of

exceptions. C apital flows into projects around the globe— but perhaps not

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