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Scope of the Antras-Caballero Paper. The classical Heckscher-Ohlin-Mundell paradigm states that trade and capital mobility are substitutes, in the sense that trade integration reduces the incentives for capital to flow to capital-scarce countries. In Antras-Caballero (AC) paper they show that in a
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1. Trade and Capital Flows: A Financial Friction Model by Pol Antras and Ricardo Caballero Discussion
by
Assaf Razin
2. Scope of the Antras-Caballero Paper The classical Heckscher-Ohlin-Mundell paradigm states that trade and capital mobility are substitutes, in the sense that trade integration reduces the incentives for capital to flow to capital-scarce countries.
In Antras-Caballero (AC) paper they show that in a world with por-advanced financial development, the Heckscher-Ohlin-Mundell conclusion does not hold.
In particular, in the less financially developed economies (South), trade and capital mobility are complements.
Within the Caballero, Farhi, and Gourinchas dynamic framework, the complementarity carries over to (financial) capital flows.
3. Trade in Goods and Trade in Assets as Complements: Helpman and Razin (1978)
4. Trade in assets enhances trade in goods Comparative advantage specialization
5. The Complementarity between trade in goods and trade in assets: Two Directions Diagram demonstrates that trade in assets increase specialization and thus also trade in goods.
The Direction: From trade in assets to trade in goods.
In any deterministic economy, the allocation of resources across industries is governed by commodity prices. In In Helpman and Razin (JPE 1978) stochastic economy with trade in assets the allocation of resources is governed by equity prices and is dependent on good prices only to the extent they influence equity prices. In the presence of international trade in assets, a tariff always protects the import competing sector. A tariff reduces BOTH goods’ trade AND asset trade.
The Direction: From trade in goods to trade in assets.
6. Helpman and Razin (1978, Ch 11)
7. Helpman and Razin (1978, Ch 11)--continued
8. Empirical Tests: Kalemli-Ozcan, Sorensen, Yosha (AER 2003) Industry specialization rises with Inter State Risk Sharing
9. Growth and Current Account Balance in US States by Kalemli-Ozcan, Reshef, Sorensen and Yosha
10. Factor Movements and Commodity Trade as Complements, Markusen (1983) Country cum Sector Asymmetry
11. If we allow factors to move between countries, L will migrate to country h and/or K will migrate to country F. Each country will receive factor used intensively in the production of export good.
12. Markusen’s Complementarity 1. Markusen posits technological differences between countries but not across sectors (i.e., absolute, not comparative advantage Ricardian differences). 2. Markusen’s complementarity is from capital flows to trade flows, i.e., w/o capital mobility there is no reason to trade (precisely because of point 1 above), while the movement of capital to North generates Heckscher-Ohlin trade.
13. The Antras-Caballero Model The economy employs two factors (capital K and labor L) to produce two homogenous goods (1 and 2).
The country is inhabited by a continuum of measure of entrepreneurs (or informed capitalists), a continuum of measure 1- ?? of uninformed capitalists, and a continuum of measure L of workers.
All capitalists are endowed with K units of capital and each worker supplies in-elastically one unit of labor, so the aggregate capital-labor ratio of the economy is K/L, with a fraction of K being “informed” capital and the remaining fraction being “uninformed” capital.
14. Baseline Model
15. No Financial Friction: Autarky
16. No Financial Friction :International Trade If p*<1
If p*>1
17. Financial Friction Financial Friction has asymmetric effect in the two sectors:
Financial contracting in sector 2 is perfect—producers hire desired capital at the competitive equilibrium rental rate
18. the production process in sector 1 is relatively complex: (i) only entrepreneurs know how to produce in sector 1 (i.e., their human capital is essential), and (ii) because of informational frictions, producers in that sector (i.e., entrepreneurs) can only borrow a limited amount of capital. Lenders extend credit to entrepreneurs a fraction of the entrepreneur’s capital endowment.
in sector 2 producers can hire any desired amount of capital at the equilibrium rental rate.
labor can freely move across sectors, it is allocated to equate the value of its marginal product.
19. Financial Contracting in Sector 1 Only entrepreneurs know how to produce in sector 1
Informational frictions are such that lenders are willing to lend a fraction of entrepreneur’s capital endowment
20. Financial Frictions: Autarky Each entrepreneur invest
of the aggregate amount of capital in sector 1
Labor allocation is
Relative price is
21. Price, wage , rental rate, and premium to rate of return In the closed economy financial frictions do not distort the allocation of labor across sectors but shift capital to the unconstrained sector (sector 2). As a result, sector 2s output is oversupplied’, and its relative price p is depressed.
The wage, w, and the rental rate on capital are increasing functions of the degree of financial contractibility .
Other things equal, less financially developed economies feature depressed wages and depressed returns to uninformed capital.
When the borrowing constraint binds, informed capital becomes relatively scarce in sector 1 and entrepreneurs obtain a premium over the return of uninformed investors in that sector.
22. Closed economy: Effect an increase in financial contractibility measure In the closed economy equilibrium, an increase in financial contractibility has the following effects:
It raises the relative price, p, of the unconstrained sector, the real return to uninformed capital, real wages, and welfare.
It lowers the wage-rental ratio.
It has an ambiguous effect on entrepreneurial income.
23. Trade in Goods Whenever p < 1, a frictionless small South would like to fully specialize in the production of good 1. However the borrowing constraint in that sector prevents this by limiting the aggregate allocation of capital to that sector to be no larger than K. Thus, the distribution of capital across sectors is identical to that in the closed economy.
The allocation of labor across sectors is affected by the access to international trade in goods. The allocation of labor no longer needs to be consistent with goods market clearing of a closed economy.
This is the distinguishing effect of international trade in the model: it separates the allocation of factors across sectors from local demand conditions.
24. International trade allows South to face a less depressed relative price p South tilts the allocation of labor toward the unconstrained sector 2, thus specializing in the less financially dependent sector A larger p raises the incentive to shift resources to the unconstrained sector. This shift relaxes the financial constraint in sector 1, and consequently reduces the premium remuneration obtained by entrepreneurs, while it increases the remuneration of labor and capital in terms of sector 1’s output.
A Proposition: Trade integration raises the real return to uninformed capital in the financially underdeveloped South.
25. Trade and Capital Mobility as Complements Trade Frictions: Trade costs in sector 2 are prohibitive.
South cannot specialize in in its comparative advantage sector.
Capital rental in the North > Capital rental in the South
With capital mobility, uniformed capitalists in the South have incentive to move their capital endowment to the North, in exchange of import of good 1 to the South (amount equals rental payments of capital exports).
26. Financial contractability and capital flows Proposition: The larger the difference in financial contractability, , the larger share of South capital that flows out to the North.
Interpretation: financial friction can explain the Lucas’paradox.
27. The Caballero, Farhi, and Gourinchas Equilibrium Model of Global Imbalances and Low Interest Rates (AER 2008)
28. The Closed Economy Model
29. The Closed Economy Model (continued)
30. Closed economy model continued
31. continued
32. Closed economy (continued)
33. Small Open Economy
34. Small Open Economy (steady state)
35. Steady State Equilibrium
36. Steady state properties
37. More properties
38. Trade balance
39. Symmetric two-country model
40. Two symmetric countries
41. The global equilibrium
42. A shock
43. Home bias assumption
44. Alternative formulation of current account
45. Global imbalances
46. Global imbalances
47. Closed economy equilibrium
48. Small Open Economy
49. Autarky r (r-aut)
50. Current Account Deficit
52. Antras- Caballero Dynamic Dynamic Model At any point in time, factor prices are determined exactly as in the static model developed above. Physical capital plays a dual role as a productive factor and also as a store of value. To the extent that claims on this store of value are allowed to be traded across borders, this dynamic model generates an alternative source of capital flows across countries.
The key price that determines the direction of these capital flows is not the rental rate , but rather the interest rate r in each country before opening the capital account.
This interest rate differs from the static marginal product of capital, because the value of a unit of capital need not be one in equilibrium (since capital is fixed) and there could be expected capital gains or losses.
53. The interest rate is higher in South than in North because of the depressed wage mechanism. By specializing in the unconstrained sector, un-informed capital works with a disproportionate amount of labor in economies with lower credit multipliers and thus earns a disproportionately large return.
As a result, a larger share of capital income is in the form of capitalizable .uninformed capital income.and the supply of store of value, relative to its demand, is higher.
54. Bottom line Proposition (Anti-Stolper-Samuelson): Regardless of differences in factor intensity and relative factor abundance, trade integration with a more fi.nancially developed and capital abundant North reduces the wage-rental ratio in South. As a result, the rental rate increases relative to the price of both sectors, while wages increase relative to the price of the import sector, but fall relative to the price of the export sector.
The key conditions that ensure this result are that (i) South features a depressed relative price p in the closed-economy equilibrium, and that (ii) in the free trade equilibrium, the rental rate of uninformed capital in South is increasing in the relative price p.
AC conclude that their model delivers a robust complementarity between trade flows and capital mobility.
55. Comments The AC mechanism is quite distinct, and empirically one should be able to find
ways to empirically test our model against other models, precisely using the available data on cross-country financial development, and cross-industry financial dependence.
1. AC complementarity, in contrast of Markusen’s Complementarity runs from trade to capital mobility, and it
does not emphasize complementarity in gross flows, but in net flows.
2. AC model also features the direction of complementarity going from K-flows to trade flows related to that of Markusen. (see also Grossman and Razin (JPE 1981).
3.The mechanism depends crucially on free inter sectoral labor mobility: empirically applicable?
4. What are differences in empirical implications between (Dynamic) Helpman and Razin (1978, Ch 11)) and (The Dynamic) Antras and Caballero?
5. What policy tools are suitable to take care of the distortion (see Helpman and Razin (AER 1980 for the ranking of subsidy, tariff and import quota in the presence of trade in securities)
