7 - Trade, Factor Flows, and Product Variety in a Small Open Economy

Summary

Introduction

This chapter provides an explanation of asymmetry in policy changes regarding commodity trade, capital inflow, and immigration of labor in terms of their asymmetric impacts on product variety and diversification of export basket.

Recent years have witnessed a remarkable push toward globalization. The global economy is more open than before. Yet, noticeable differences in the magnitude of changes in volumes of trade, international capital flows, and immigration can be observed (Findlay and O'Rourke, 2002; Obstfeld and Taylor, 2002). The extraordinary increase in trade volumes in the post-World War II era has not been matched by a parallel rise in labor movement (Mayda, 2004).

This is primarily because of asymmetric policies, preferences, and perceptions of countries toward commodity trade liberalization, and immigration of labor or capital inflow. Historically, domestic policies of nations regarding goods trade and labor flows have moved in opposite directions. In the post-World War I era, immigration policies have experienced tightening relative to the previous century, whereas trade policies have increasingly been liberalized especially after World War II (Faini, 2002).

Empirical evidence suggests that the economic forces driving the supply side of international immigration—cross-country wage and income differentials, reduced transport, communication and information costs, and opportunities for risk diversification—have become stronger in the last two decades. Hence, as pointed out by Faini (2002), restrictive policies play a key role in explaining the relatively small scale of international immigration.

The reasons for such a preference of asymmetric policy may be more than one. Trade and migration patterns are driven largely by the differences in the relative endowments of skilled and unskilled labor in different countries as suggested by the Heckscher–Ohlin–Samuelson (denoted as HOS hereafter) theory. This theory predicts that the migration of skilled labor is less anti-trade and anti-immigration in more skill-abundant countries (which are the richer countries) than in more unskilled labor-abundant countries (poorer countries). This theoretical prediction is also empirically verified and confirmed by some recent studies of O'Rourke (2003) and Mayda (2004) rejecting the earlier view that only noneconomic considerations shape attitudes toward foreigners. Mayda (2004), in particular, brings out the importance of the economic factors, which play key and robust role in preference formation on immigration policy, thereby controlling for the impacts of noneconomic factors.