Topics in the Globalisation Debate 1: Competitiveness; Immigration

1. Topics in the Globalisation Debate 1: Competitiveness; Immigration • This lecture draws mostly from: • Krugman (1993) What Do Undergrads Need to Know About Trade? The American Economic Review. Vol. 83(2): 23–26 • Krugman (1994): Competitiveness: A Dangerous Obsession. Foreign Affairs 73(2) • Dustmann, C. and Glitz, A. 2005. Immigration, Jobs and Wages: Theory, Evidence and Opinion. London, Centre for Economic Policy Research. • Lewis (2004): “How Do Local Labor Markets in the U.S. Adjust to Immigration?” Federal Reserve Bank of Philadelphia. Mimeo

2. The Globalisation Debate • The term “globalisation” is so overused that it is not clear what it means. • Economists would think about things like trade, factor mobility and diffusion of technology • Other discussants (trade unions, environmentalists, development lobbyist, consumer groups, human right activists, religious groups, utopians…) often seem to talk about (alleged) increased power of large companies and “Americanization” • In the remaining two lectures we will take a brief look at some key issues: discussion on how to enhance country’s competitiveness and impact of globalisation on the labour market.

3. Competitiveness: “A Typical Statement about International Economics” • “We need a new economic paradigm, because today [our country] is part of a truly global economy. • To maintain our standard of living, [our country] now has to learn to compete in an ever tougher world marketplace • That’s why high productivity and product quality have become essential • We need to move [our country’s] economy into the high-value sectors that will generate jobs for the future • And the only way we can [achieve this is to] forge a new partnership between government and business” Paul Krugman (1993) What Do Undergrads Need to Know About Trade? The American Economic Review. Vol. 83(2): 23–26

4. Competing in “an ever tougher world marketplace” • President Clinton: each nation is “like a big corporation competing in the global marketplace” • Some bestselling titles • Lester Thurow: Head to Head. The Coming Economic Battle among Japan, Europe and America • Jeffrey Garten: A Cold Peace: America, Japan and Germany and the Struggle for Supremacy • Ira Magaziner & Mark Patinkin: The Silent War See P. Krugman (1995): The Illusion of Conflict in International Trade. Peace Economics, Peace Science, and Public Policy (also in Pop Internationalism)

5. The Need for a New Paradigm? M. Porter (1990) in The Competitive Advantage of Nations: “Yes” • “A new theory must explain why firms from particular nations choose better strategies than those from others for competing in particular industries” (p. 19) • “A new theory must move beyond comparative advantage to the competitive advantage” (p. 20) • “...the best measures [of competitive advantage are] (1) the presence of substantial and sustained exports to a wide array of other nations and/or (2) significant outbound foreign investment based on skills and assets created in the home country” (p. 25)

6. The Need for a New Paradigm? • Krugman (1993): “no” • “probably the most important single insight an introductory course can convey about international economics is that it does not change the basics: trade is just another economic activity, subject to the same principles as anything else”

7. Competitive Advantage: Firms • Competitive advantage of a firm • “competitive strategy is about taking offensive or defensive action to create a defendable position in an industry, in order to cope successfully with competitive forces and generate a superior return on investment”(Value Based Management.net) • if a firm is not competitive, it will go bankrupt • Firm’s competitiveness can be measured trough profits / return on investment etc.

8. Competitive Advantage: Countries • Countries are not companies • while firms based in different countries sell products that compete with each other, in the country-level there are mutual benefits from trade • Success of one country is likely to benefit other countries (more demand for imports) • The only meaningful “offensive or defensive action” in the level of a country is strategic trade policy • Imports (NOT exports) are the purpose of trade → exports / current account is not the “bottom line” of a country in a way profits are for a firm

9. Competing in “an ever tougher world marketplace” P. Krugman (1994): Competitiveness: A Dangerous Obsession. Foreign Affairs “While competitive problems could arise in principle*, as a practical, empirical matter the major nations are not to any significant degree in economic competition with each other” * e.g. the terms-of-trade argument and strategic trade policy

10. What does “Competitive Advantage of a Nation” mean, anyways? • Porter (1990): • “the only meaningful concept of competitiveness at the national level is national productivity” • Krugman (1994): • ”competitiveness” would turn out to be a funny way to saying “productivity” and would have nothing to do with international competition

11. “A Typical Statement about International Economics” • “We need a new economic paradigm, because today [our country] is part of a truly global economy. • To maintain our standard of living, [our country] now has to learn to compete in an ever tougher world marketplace • That’s why high productivity and product quality have become essential • We need to move [our country’s] economy into the high-value sectors that will generate jobs for the future • And the only way we can [achieve this is to] forge a new partnership between government and business”

12. Why Productivity Matters? • Example: • productivity of a closed economy increases by 1 % → the consumption possibilities increase by 1% • productivity of country A increases by 1 %, and productivity of country B by 3 % → A’s consumption possibilities increase by 1%, B’s by 3% (unless there is a substantial terms-of-trade effect*) • That is, productivity is beneficial for its own sake, not because it helps us “to compete in the world marketplace” * In this case, one would expect the prices of the goods B is exporting to decrease (due to increase of supply). That is, A’s consumption possibilities would increase by more than 1%

13. High-Value Sectors… • “Our country’s real income can rise only if (1) its labour and capital increasingly flow toward businesses that add greater value per employee and (2) we maintain a position in these businesses that is superior to that of our international competitors” Ira Magaziner and Robert Reich (1982): Minding America’s Business. p. 4

14. “High-Value Sector” in a Simple Ricardian Model • England is more efficient in producing both products → England’s wage rate will always be higher • England has comparative advantage in producing cloth → in free trade England produces cloth → cloth is the “high-value” sector • Does this mean that the Portuguese government should promote reallocating resources to produce cloth? Of course not.

15. …that will generate jobs for the future • Krugman: “level of employment is a macroeconomic issue depending • in the short-run on aggregate demand • in the long-run natural rate of unemployment • with microeconomic policies like tariffs having little net effect” Paul Krugman (1993) What Do Undergrads Need to Know About Trade? The American Economic Review. Vol. 83(2): 23–26

16. “A Typical Statement about International Economics” • “We need a new economic paradigm, because today [our country] is part of a truly global economy. • To maintain our standard of living, [our country] now has to learn to compete in an ever tougher world marketplace • That’s why high productivity and product quality have become essential • We need to move [our country’s] economy into the high-value sectors that will generate jobs for the future • And the only way we can [achieve this is to] forge a new partnership between government and business”

17. A New Partnership between Government and Business? Robert Gilpin (2001): Global Political Economy: Understanding the international economic order. Princeton University Press. p. 210-214 • “Governments can and do have an important and even decisive role in promoting their own national firms in international markets” • “a government can take a long-term perspective and establish policies that foster a favourable domestic environment for those sectors most likely to be competitive in international markets”

18. A New Partnership between Government and Business? = infant industry argument Remind yourself of Lecture 8: • Key assumption: market failure(due to externalities, imperfect capital markets etc.) • Problems • identifying the right industries • Time consistency: will the protection eventually become permanent?

19. Partnership between Government and Business? • Krugman (1993): • “the main competition going on is one of U.S. industries against each other, over which sector is going to get the scarce resources” • “there are reasons, such as external economies, why a preference for some industries over others may be justified. But this would be true in a closed economy, too”

20. The Dangers on Obsession on International Competitiveness • Wasteful spending of government money • Inefficient allocation of resources • resources from nontradables to tradables • Possibility of protectionism & trade wars • Indirect impact on the quality of economic policy making in general P. Krugman (1994): Competitiveness: A Dangerous Obsession. Foreign Affairs (also in Pop Internationalism)

21. Impact of Immigration revisited Variation of model discussed in Lecture 5 • One output • Three factors of production: capital, skilled and unskilled workers • unlimited amount of capital available from the international market at fixed price • native labor force fixed, but not perfectly inelastic (some will not work if wages are too low) • All immigrants are low-skilled workers • If immigrants have the same skill-mix as the natives, the economy expands but nothing happens to wages

22. Immigration leads to decrease in low-skilled wages and increase in low-skilled unemploy-ment High-skilled workers win more than low-skilled lose → immigrant surplus LN0: Initial native employment LN1: Post-immigration native employment w0: initial wage w1: post-immigraiton wage Impact of Immigration: Theory Low-skilled Wage LS0 LS1 Immigration w0 Transfer from low- to high-skill workers Change in low-skilled native wages Immigrant surplus w1 Low-skilled Natives’ wage Immigrants’ wages LD LN1 LN0 Amount of low- skilled Labor Change in low-skilled native employment

23. The Challenge of Empirical Work • Constructing the counterfactual • First step: descriptive analysis. Is the data consistent with the models? • More challenging question: “if everything else stays constant and immigration increases by X percent, how much does production, wages etc. change?”. • Problem: we never observe what would have happened if there had been a different amount of immigration. Hence, we need to construct the counterfactual using theory or a natural experiment. • Understanding the role of the models • The models we have studied are caricatures. That is, it does not make sense to ask are they “true” or “false”. Instead, the question to ask is: to what extent are they explaining what we are observing?

24. Estimating the Impact of Immigration • Most studies estimate the equation yjt = γrjt + Xjtβ + ujt where y is the outcome in labour market j at time t, r is the share of immigrants in this labour market, X is a set of relevant control variables and u summarizes the unobservable factors affecting the outcome. The parameter of interest is γ • Q: Why some labor markets attract immigrants? • If this is due to unobserved factors (e.g. positive demand shocks increasing wages), we say that r is endogenous and standard (OLS) estimates of γ will be biased upwards • Solutions: (a) Natural experiments, (b) Instrumental variables

25. Summary of results • Most studies find small or no effect of immigration on native wages and employment • Current research aims to understand, why? • Possible explanations • Endogeneity bias • Native out-migration • Changes in product-mix • Changes in technology • Increase in demand (by the immigrants)

26. Spatial correlations approach: critique • Most studies define labor market as a geographical area • essentially compare wage growth in cities (inside one country) with different immigrant inflows (due to reasons unrelated to wage growth) • Borjas: not valid, immigration will affect all areas • internal migration and capital flows • changes in product-mix

27. Immigration increases labor force in one area → production of low-skill intensive products increase in this area → other areas increase production of high-skill intensive products → more trade between areas inside countries Price of low-skill intensive product decreases → low-skilled wages decrease also in areas where no migrants went Impact on product mix: theory Paper Clothes

28. Impact on product-mix: empirics • Lewis (2004) and Glitz and Dustmann (2007) study the impact of immigration in US and Germany, respectively • Both conclude that the there is an impact on product-mix, but it is not sufficiently large to explain the absence of wage effects. However, both find large effect on within-industry worker mix suggesting that firms seem to alter their technologiesas a response to changes in labor supply • The standard HO-model assumes constant technology and cannot thus predict this. However, one can simply modify the HO-model, by relabeling “goods” as “techniques”