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151 The Puzzle of Globalization
Figure 12 | Modeling the Reality; Source: Own
Note that firstly a country’s welfare effect is independent from the direction of specialization (An-
nex, Figure 1b). The latter only depends on the differences in relative prices in goods markets
between the countries in the autarky situation. Secondly, trade-induced price change and wel-
fare effect are positively correlated (Annex, Figure 1c). Thirdly, the welfare effect consists of two
components: gains from exchange and gains from specialization (Annex, Figure 1d). The model
allows the following statements:
– A low degree of specialization in both countries in the autarky situation implies a high
potential of welfare gains.
– If the loss of domestic production of the good that has a comparative disadvantage is low
when increasing the export production by one unit, then the possibility to realize potential
welfare gains is high.
– The country that possesses the higher potential of specialization will gain a higher share
of the total welfare effect.
Box 1 A general model of international trade
Since in autarky country II (I) has a lower relative price in the x1 (x2) market, both countries
gain if II specializes in x1 and I in x2 (graph 1).The production in II (I) moves down (up) on
its production frontier from PII(A) ( P(I(A)) to PII(F) (PI(F)). After introducing free trade the
market mechanism equalizes the relative goods prices in the integrated x1 respectively x2
market by exporting x1 from II to I and exporting x2 from I to II. The opposed specialization
incurs increasing opportunity costs. Therefore, the world equilibrium is achieved before
I or II fully specialize on one good production. The common relative price slope p(F) is
tangent to production and consumption in both countries (PI(F), CI(F) = CII(F), PII(F)). It
appears that free trade has positive effects on both countries: