Working Paper: CEPR ID: DP7000
Authors: Kari E. O. Alho; Ville Kaitila; Mika Widgrn
Abstract: Economic convergence of the new member states (NMS) of the EU towards the old EU countries (EU-15), not only in terms of real income, but also in nominal terms, is of paramount importance for the whole of the EU. We build a dynamic CGE model, starting from the Balassa-Samuelson two-sector framework, but modify and enlarge it with forward-looking investment, consumption, and labour mobility behaviour to address several other issues like welfare and sustainability in terms of foreign indebtedness. At the same time we evaluate the impact of convergence on the EU-15 countries also, by endogenising offshoring and the related FDI flows from them to the NMS. Thereby we identify various effects of relocation and globalisation on the EU-15 enlarging the standard set of effects of globalisation and demonstrate the key role of their dynamic nature in the process of convergence. We find that in a general equilibrium setting fears of large adverse effects of a relocation of EU-15 manufacturing to the NMS are not well founded. In contrast, offshoring appears to be a win-win case for both the EU-15 and the NMS in terms of real income. The convergence of the NMS is fairly rapid, but will involve a persistent rapid inflation rate.
Keywords: convergence; EU15; new member states; relocation
JEL Codes: F15; F21; F43
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| offshoring and the relocation of EU15 manufacturing to NMS (F23) | win-win situation for both regions (F55) |
| offshoring and the relocation of EU15 manufacturing to NMS (F23) | enhanced real income levels (E25) |
| increased FDI and offshoring activities (F23) | significant GDP gain for NMS (E20) |
| speed of convergence for NMS (C45) | rapid convergence (O47) |
| persistent inflation rates (E31) | nominal adjustments lag behind (E39) |
| dynamic nature of globalization (F60) | role in convergence process (F62) |
| offshoring (F23) | slight reduction in real wages for EU15 (J39) |
| offshoring (F23) | increase in profits and national income for EU15 (O52) |
| productivity gains and labor market adjustments (J29) | complex interaction (F55) |
| overall impacts of offshoring on EU15 (F69) | limited threat to economic stability (F65) |