Trade and growth in a model of allocative inefficiency

Abstract

The empirical evidence on the causal relationship between international trade and economic growth is inconclusive. While some studies show that trade leads to growth, others have pointed to a reverse causation. In this paper, we develop a model of international trade and productivity growth in the presence of a misallocation of resources. Misallocation in a country arises as a result of lobbying by firms to establish barriers to the competitive allocation of labor. Misallocation prevents the country from exploiting its technological comparative advantage and leads to a reduction in the volume of trade in the absence of any explicit trade barriers. In the model, whether barriers diminish or worsen with productivity growth depends on the extent of the initial resource misallocation. If the initial resource misallocation is not severe, then productivity growth leads to diminishing barriers and vice versa. In either case, productivity growth strengthens the comparative advantage over time and therefore increases the volume of trade.

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“…Similarly, Sandleris and Wright [36] proposed that the financial crisis has seriously worsened the distribution of resources both across and within sectors in Argentina, and reduced total factor productivity by 10%. Other factors also lead to resource misallocation, such as trade barriers [37], credit market imperfections [38], etc. In-depth analysis of the mystery of low productivity growth in southern European countries, Gopinath et al [39] found that capital misallocation seriously hindered economic development and inhibited productivity growth.…”