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

Chapter 3: Assessing the impact of trade on employment: Methods of analysis
Yet foreign products are not always able to satisfy consumers’ preferences in
precisely the same way that domestic production does. The point is that it is not
really the same good for all consumers and so some are willing to pay the premium
to “buy local” to keep domestic production viable. The imported and the locally
produced goods are considered imperfect substitutes in this case, and two different
prices will co-exist for the “same” good. The employment impact of tariff reductions
will then crucially depend on the level of the so-called elasticity of substitution between
imported and locally produced goods. This elasticity is called the “Armington
elasticity” and is an important element of most trade-related simulation exercises.
Box 3-2 provides details using the Armington elasticity to estimate the effect of
cheaper imports on domestic employment.
The greater the consumer attachment to domestic goods vis-à-vis their foreign
rivals, the smaller the σ and the less job loss will occur. 18 Figure 3.1 reflects simulation
results of the employment response to changes in foreign prices. The horizontal axis
depicts foreign prices relative to domestic prices. If foreign goods are cheaper than
domestically produced goods, the relative price on the horizontal axis is smaller
than one. The vertical axis shows employment losses generated by reductions in foreign
prices. The three curves depicted in the chart reflect employment losses
corresponding to different levels of import substitution. The higher the level of substitution,
i.e. the larger the Armington elasticity σ, the larger the employment losses
resulting from import competition.
Many comparative static exercises could be undertaken with this simple model:
the jobs response also depends on the initial share of imports and the supply elasticity,
μ, both of which can be changed. For σ > ε , job loss increases with the initial share
of imports and decreases with the supply elasticity. Note the elephant in the room
here: while there is job loss, the consumer price always decreases, leaving consumers
better off than if trade barriers had not been lowered. This is the classic trade-off,
captured in table 3.1 above, and now in this desktop CPE model.
Although partial equilibrium approaches have most frequently been used to
assess the employment effects of increased imports, they can also be used to evaluate
the employment effects of increased export opportunities. Not surprisingly, a focus
on exporting sectors would tend to give an overly-optimistic picture of the employment
effects of trade. As in the case of imports, the question of substitution between
trade and domestically produced goods also arises in the case of exports. As noted
in Sadoulet and de Janvry (1995), a bilateral choice model can be set up to extend
to producers as well as consumers, as illustrated above. Exports in a world with competitive
exchange rates may be very attractive for producers, but foreign markets
also bear risks, many of which are absent in domestic markets. Quality control issues,
forward markets for export earnings and other incentives may entice domestic producers
to “sell local” when models with perfect substitution would suggest otherwise.
18 Note that according to standard theory there is nothing inefficient whatsoever about this
attachment.
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