Trade and Employment From Myths to Facts - International Labour ...

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Chapter 6: Trade adjustment costs and assistance: The labour market dynamics production have found their new long-run occupations. However, such calculations need to be adjusted for possible losses during the transition to the new long-run situation, in particular if this transition takes a long time. That is, proper welfare calculus needs to allow for social adjustment costs. One standard metric of the adjustment costs an economy faces is the value of output that is foregone in the transition to new long-run production patterns because of the time taken to reallocate factors from their pre- to their post-liberalization occupations. In figure 6.1, the long-run equilibrium path is represented by Y T . If trade liberalization takes place at time=0, output would jump from Y 0 to Y T in the absence of adjustment costs. In the presence of adjustment costs, instead, output will follow a path as the curved line Y(t), i.e. output may drop below the original output level Y 0 , remain below it until t Y0 , and ultimately exceed Y 0 to slowly approach Y T . Adjustment costs would, therefore, correspond to the properly discounted difference between Y T and the curve Y(t) in figure 6.1. 3 In this chapter, we refer to this value as gross adjustment costs. Gross gains correspond to the discounted value of Y T minus Y 0 . As a consequence, net gains from trade reform equal the discounted value of Y(t) minus Y 0 . In the left-hand part of figure 6.1, it is assumed that output drops temporarily below the output level Y 0 that preceded trade reform. In many of the papers discussed in this chapter, adjustment costs are considered to be only those costs that bring output below its pre-reform level. In figure 6.1, this would correspond to the discounted difference between Y 0 and Y(t) between the time of the reform and t Y0 , i.e. the period in which output reaches pre-reform levels again. In this chapter, we will refer to that value as the adjustment costs, as opposed to gross adjustment costs defined in the previous paragraph. Net losses such as those depicted in figure 6.1 for the first years following reform, though possible, do not always occur (Bacchetta and Jansen, 2003). Indeed, the adjustment costs such as unemployment and lower output in some sectors may be outweighed by benefits in others. In this case, Y(t) does not fall below Y 0 . According to the definition used in this chapter, adjustment costs would then be zero, even though gross adjustment costs are positive. Even if net losses occur during the beginning of the adjustment period, the overall benefits from trade liberalization (equal to the surface between Y(t) and Y 0 ) are very likely to be significantly positive, in particular if the period of net losses is short. In the theoretical literature, another scenario has been discussed quite prominently that has received relatively little attention in empirical work. A number of theoretical studies find that the long-run free trade equilibrium may be affected negatively by the existence of adjustment costs. Graphically this could, for instance, take the form of an adjustment path as the one depicted in the right-hand part of figure 6.1, where the long-run equilibrium after trade liberalization would shift from Y T to Y T,A in the presence of adjustment costs. Mussa (1978), for instance, finds in a 3 This method of calculating adjustment costs was suggested by Neary (1982) and has also been used by Davidson and Matusz (2004b). 215
Trade and Employment: From Myths to Facts Figure 6.1: Adjustment paths following trade liberalization YT Y 0 Heckscher-Ohlin framework that the original free trade equilibrium may not be reached in the presence of adjustment costs. In that paper, the adjustment of capital is assumed to be costly, while labour moves smoothly from the shrinking import to the expanding export sector. Davidson and Matusz (2004a), instead, assume that the labour market is characterized by frictions. In particular, they assume that finding new jobs in the exporting sector involves a search process and that this search process is categorized by congestion externalities. In that set-up, a temporary terms-of-trade shock can lead to multiple equilibriums, a “good” steady state with high job-acquisition rates and high output, and a “bad” steady state with lower job-acquisition rates and lower output. Government intervention is warranted in order to guide the economy towards the “good” path. In theory, trade liberalization may entail a net welfare loss if the gains are sufficiently small relative to the adjustment costs, i.e. if the discounted sum of the annual net gains following t Y0 is smaller than the discounted sum of the annual net losses in the first years following trade reform and until t Y0 is reached. However, adjustment costs would have to be very large relative to the standard gains from trade liberalization in order to dominate the latter. Adjustment costs tend to be temporary and must be set against an indefinite stream of future higher incomes. It would therefore take very large costs, or a very short-run perspective (i.e. a high discount rate) in order for the net costs to outweigh the net gains. This is further reinforced by the fact that the (static) gains from trade liberalization tend to grow over time as a result of general economic growth. 4 Figure 6.1 above provides a graphical representation of the possible adjustment costs to the economy as a whole. Those costs are sometimes referred to as social costs. A substantive amount of literature has looked at individual components of those social adjustment costs, i.e. at the costs occurring to labour, capital or the public sector. Table 6.1 provides an overview of the different possible components. 216 Output ty0 Y(t) time YT YT,A Y 0 Output 4 Trade liberalization may under certain circumstances also lead to long-term net losses for some economies, i.e. Y T < Y 0. Peters and Vanzetti (2004) show, for example, that some countries could expect long-term losses from multilateral agricultural trade liberalization, e.g. due to preference erosion. ty0 time Y(t)
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Trade and Employment From Myths to
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Trade and Employment From Myths to
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PREFACE Trade negotiations -bilater
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Trade and Employment: From Myths to
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EDITORS AND CONTRIBUTORS EDITORS Ma
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ACKNOWLEDGEMENTS The editors wish t
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NEW EVIDENCE ON TRADE AND EMPLOYMEN
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Chapter 2: New evidence on trade an
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Region Annualized percentage change
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Region 1980 1985 1990 1995 2000 200
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Figure 2.4.b: Long-run association
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20 See Harrison and Rodriguez-Clare
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ASSESSING THE IMPACT OF TRADE ON EM
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Chapter 3: Assessing the impact of
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APPPENDIX 3.A: TABLES Chapter 3: As
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TRADE AND THE INFORMAL ECONOMY 4.1
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Chapter 4: Trade and the informal e
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For more than two decades, quantita
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