intraindustry trade

C h a p t e r 5

To accompanyInternational Economics, 3e by Sawyer/SprinklePowerPoint slides created by Jeff Heyl

Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall

Intraindustry Trade


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INTRODUCTION

• What is intraindustry trade?• What are the reasons for intraindustry

trade?• How does it differ from interindustry

trade?• What are the welfare effects of

intraindustry trade?


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Test of the Heckscher-Ohlin Model

• W. Leontief (1951)

• Built input-output model for 200 U.S. industries for 1947

• Assumed U.S. was the most K-abundant country

• Used U.S. exports and import substitutes


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Input-Output Table

• A table that details the sales of each industry to all other industries in an economy.

• A spreadsheet with column entries showing purchases made by a specific industry from all other sectors, and row entries showing sales by a specific industry to all other sectors.

• Also contains the labor and capital requirements for a fixed amount of output of a given industry.


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Leontief Paradox

• The finding that U.S. exports tend to be more labor-intensive than U.S. imports, while U.S. imports are relatively more capital-intensive than U.S. exports.


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INTRODUCTION

• Intraindustry trade occurs when countries trade essentially the same goods with one another• The trade of autos and auto parts between the

U.S. and Canada

• Interindustry trade occurs when a country either exports or imports goods in different industries


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INTRAINDUSTRY VERSUS INTERINDUSTRY TRADE

• The factor-proportions theory • States that each country exports goods in which

they have a comparative advantage• Tests of the theory raised some questions and

stimulated development of new theories• Factor-proportions does not explain intraindustry

trade• Intraindustry trade implies that a country has a

comparative advantage and disadvantage in the same good


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INTRAINDUSTRY VERSUS INTERINDUSTRY TRADE

• Explaining intraindustry trade is more complicated than interindustry trade

• Several theories have been proposed addressing narrower and narrower groups of goods

• It is first necessary to define intraindustry a little more carefully


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DEFINING INTRAINDUSTRY TRADE

• Measuring intraindustry trade is not as straightforward as measuring interindustry trade

• Intraindustry trade is two-way trade in the same good

• A numerical measure of intraindustry trade is necessary


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• The intraindustry trade index is

MX

MX1index try tradeIntraindus

Where for a particular industry or product group

X = the value of exportsM = the value of imports


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• Consider the case of only interindustry trade• The U.S. imports $100,000 in cloth from India and

doesn’t export anything

0$100,000$100,000

1MX


• The U.S. exports $100,000 of machines to India and doesn’t import anything

0$100,000$100,000

1MX



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• Consider the case when the U.S. exports $50,000 of food to India and imports $50,000 of food from India

1$100,000

01index try tradeIntraindus

• This indicates that 100% of the trade in the food industry is intraindustry trade

• The closer the index is to 1, the more intraindustry trade there is relative to interindustry trade


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• The major shortcoming to this index is that results vary depending on how an industry or industry group is defined

• The more broadly a group is defined, the more likely we are to find intraindustry trade and the higher the intraindustry trade index will be

• The more narrowly a group is defined, the less likely we are to find intraindustry trade and the lower the intraindustry trade index will be


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• Suppose the U.S. imports $100,000 of men’s pants and export $100,000 of ladies pants• All pants in one group

1$200,000

01index try tradeIntraindus

0$100,000$100,000

1index try tradeIntraindus Pants sMen'

0$100,000$100,000

1index try tradeIntraindus Pants sWomen'

• Men’s and women’s pants in different groups


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Category Exports Imports Calculated Index of IIT

Telecommunications Equipment 28,322 40,250 0.826

Plastic Material 25,125 13,453 0.697

Cookware 872 6,352 0.241

Pulpwood 5,908 3,189 0.701

Finished Metal Shapes 13,941 16,373 0.920

Crude Oil 567 216,627 0.005

Electronic Apparatus 29,804 33,556 0.941

Semiconductors 52,430 27,375 0.686

Machine Tools 9,498 9,572 0.996

Furniture 3,220 24,626 0.231

Excavating Machinery 9,871 10,358 0.976

Farm Machinery 5,312 6,794 0.878

Business Machines & Equipment 2,702 8,717 0.473

Medical Equipment 22,708 23,241 0.998

Computers 11,470 33,771 0.507

Civilian Aircraft 40,832 10,607 0.412

Table 5.1 Intraindustry Trade Examples: Selected U.S. Exports and Imports, 2006 ($ Millions)


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THE INCREASING IMPORTANCE

OF INTRAINDUSTRY TRADE

Economic Group/Country (Number of Countries)

Average Intraindustry Trade Index

Change in Average Intraindustry Trade Index from 1970 to 2000

1970 2000

Developed Economies (22) 0.351 0.620 0.269

Six Major Exporters 0.411 0.617 0.206

France 0.519 0.767 0.248

Germany 0.510 0.692 0.182

Italy 0.443 0.581 0.138

Japan 0.177 0.410 0.233

United Kingdom 0.453 0.736 0.283

United States 0.360 0.596 0.236

Other Developed Economies (16) 0.328 0.628 0.300

Developing Countries (25) 0.081 0.465 0.384

New Industrialized Economies (6) 0.139 0.512 0.373

Second Generation NIEs (9) 0.034 0.408 0.374

Other Developing Countries (10) 0.089 0.285 0.196

Table 5.3 Average Shares of Intraindustry in Manufactured Goods by Country Group and Change in Intraindustry Trade


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INTRAINDUSTRY TRADE IN HOMOGENEOUS PRODUCTS

• Homogeneous goods• One product is identical to every other product

produced within an industry, production of S & T in A & B are identical.

• Interindustry trade in these goods is explained by the factor-proportions theory

• Intraindustry trade can occur as a result of one or more possible circumstances


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• Intraindustry trade can occur because of1. High transportation costs

• It may be cheaper to purchase a bulky material with high transportation costs, such as cement, from a foreign supplier who is closer than the nearest domestic supplier

2. Services are produced jointly with another traded product• Insurance, shipping, and banking services may be necessary

to facilitate the completion of trade in product. A shipment of computers Japan to Palestine must be transported, insured, and financed. The export and import of these goods represent interindustry trade, but the goods would show up as intraindustry in trade in services.


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3. Countries engage in substantial entrepot and re-export trade• Entrepot trade is when goods are imported into a

country and later the same goods are exported to another country

• Only storage and distribution facilities are being provided

• Re-export trade is when goods are imported into a country and later the goods are exported with only a small transformation

• Often the small transformation is sorting, repackaging, labeling, and reshipping


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INTRAINDUSTRY TRADE IN DIFFERENTIATED PRODUCTS

• Most intraindustry trade is in differentiated goods between countries.• These goods have features that make them

appear different from competing goods in the same market or industry

• Goods can be differentiated in two ways• Horizontally differentiated goods differ in

some slight way but are similarly priced• Vertically differentiated goods have different

physical characteristics and different prices


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• Most international trade in differentiated goods occurs under conditions of imperfect competition

• This generally has to do with the number of firms in the market

• Under perfect competition a firm cannot affect market price as they are only one of many firms making identical products


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• Under imperfect competition a firm is able to influence price by changing the quantity of goods offered for sale

• Imperfect competition can occur under three different market structures

• Monopolistic competition• Oligopoly• Monopoly


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• In monopolistic competition many firms produce slightly differentiated goods and each firm maintains some control over its own price

• In an oligopoly there are few firms and a firm has some control over its own price due to the small number of competitors and high barriers to entry

• In a monopoly a firm’s market power exists because they supply the entire demand for a particular good and there are no close substitutes


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THE WELFARE IMPLICATION OF INTRAINDUSTRY TRADE

Figure 5.5 Types of Intraindustry Trade and Associated Processes

Intraindustry Trade

Varying PricesWidely Different Product

Characteristics(Automobiles, Watches)

Reduction of Transportation Costs

Provision of Homogeneous Services (Insurance, Shipping, Finance Associated with International Trade

Provision of Uninterrupted Flow of Seasonal Products (Tomatoes)

Vertically Differentiated Products

Horizontally Differentiated Products

Similar PricesSlightly Different Product

Characteristics(Gasoline, Chocolate, Perfume)

Associated Processes

Homogeneous Products

Same PriceIdentical Products

(Wheat, Concrete, Petroleum)

Economies of Scale

Product Cycle

Overlapping Demands

Associated Processes


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• Three theories that serve to explain intraindustry trade in differentiated products.

• Economies of Scale• Economies of scale means that as the

production of a good increases, the cost per unit falls

• This phenomenon is known as decreasing costs or increasing returns to scale


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Figure 5.2 Economies of Scale as a Basis for Trade

Average Cost

AC0

B

0

ACC

Number of Cars

AC1

A

50,000 200,000 250,000


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• Economies of scale can occur between countries but the pattern is indeterminate غامض - محدد غير

• As a practical matter it makes little difference which country produces which product

• Often the determination is based on historical accident or the original tastes and preferences within the domestic economy


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• There are two sources of economies of scale• Economies of scale are internal when an

increase in a firm’s output causes a decrease in its average cost• This often occurs in firms that use a lot of capital

relative to labor or where there are high fixed costs for R&D

• External economies of scale occur when a firm’s average costs fall as the total industry output rises• A larger industry may mean larger and less

expensive suppliers or a bigger pool of labor


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• The Product Cycle ( Raymond Vernon)• In the product cycle, changes in technology

or new product design can change the pattern of imports and exports

• Developed countries tend to specialize in new goods based on technological innovation

• Developing countries tend to specialize in well-established goods

• As goods move through the product cycle there will be changes in how and where the good is produced


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150140130120110100

908070605040302010

0

U.S.

New Product

Maturing Product

Standardized Product

Stages of Product Development

ProductionExportsExports

Consumption

Imports

Figure 5.4 The Product Cycle


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• Stage 1• New products need high-income markets to receive

consumer feedback• Design and production process will still be evolving• Usually this development requires specialized

scientific and engineering inputs available only in developed countries

• Both production and consumption are likely to occur in high-income and high cost-of-production country

• Over time may export to other developed countries


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• Stage 2• Product becomes more standardized in size, features,

and production processes• Production may move to other developed countries

instead of exporting to those countries• Country where product was developed may begin to

import the good from the new production country


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• Stage 3• Production has become so standardized that profit

maximization leads firms to produce in the lowest cost production site

• Standardized production can be moved to developing countries to utilize semi-skilled labor to lower costs

• Innovating country becomes an importer of the product

• Innovating country moves production focus to new products and the cycle starts over


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• Overlapping Demands – theory of Similar Taste ( Staffan Linder)

• The overlapping demands theory says that trade in manufactured goods is likely to be greatest between countries with similar tastes and income levels

• Domestic countries produce goods targeted at tastes and income levels of the domestic market

• Most promising export market is countries with similar tastes and preferences

• Within a country, consumers’ average income level will determine their general tastes and preferences

• The theory explains the large and growing trade in similar but differentiated goods


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• In general these trade patterns not based on or predicted by the factor-proportions theory

• Theory suggests that trade will be more active between countries with similar tastes, preferences and income levels

• However, there is large amount of intraindustry trade between developed and developing countries

• This can be explained by a combination of vertical differentiation and overlapping demands


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• Some consumers in developing countries may have tastes/preferences similar to the developed countries

• Their needs will not be served by their domestic market

• They would look to developed countries to satisfy demand by importing goods

• The opposite could be true for developed countries


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Table 5.4(a) Automobile Manufacturers and Products Sold in the U.S.

Automobile Manufacture

Number of Products Sold in the U.S.



ACURA 5 GMC 14

ASTON MARTIN 3 HONDA 9

AUDI 9 HUMMER 3

BENTLEY 5 HYUNDAI 9

BMW 11 INFINITI 6

BUICK 5 ISUZU 2

CADILLAC 11 JAGUAR 4

CHEVROLET 25 JEEP 6

CHRYSLER 7 KIA 8

DODGE 13 LAMBORGHINI 2

FERRARI 1 LAND ROVER 3

FORD 21 LEXUS 12


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Table 5.4(b) Automobile Manufacturers and Products Sold in the U.S.





LINCOLN 6 PORSCHE 3

MASERATI 1 ROLLS-ROYCE 1

MAYBACH 2 SAAB 3

MAZDA 10 SATURN 6

MERCEDES-BENZ 13 SCION 1

MERCURY 7 SUBARU 5

MINI 1 SUZUKI 6

MITSUBISHI 6 TOYOTA 18

NISSAN 13 VOLKSWAGEN 7

PANOZ 1 VOLVO 8

PONTIAC 6


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Human Skills Theory

• Donald Keesing (1966)

• Emphasizes differences in endowments and intensities of skilled and unskilled workers.

• Explains the Leontief paradox: Since the U.S. has highly trained, educated workers relative to other countries, U.S. exports tend to be skilled-labor intensive.

intraindustry trade

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