Working Paper: NBER ID: w13365
Authors: Elhanan Helpman; Oleg Itskhoki
Abstract: We study a two-country two-sector model of international trade in which one sector produces homogeneous products while the other produces differentiated products. The differentiated-product industry has firm heterogeneity, monopolistic competition, search and matching in its labor market, and wage bargaining. Some of the workers searching for jobs end up being unemployed. Countries are similar except for frictions in their labor markets. We study the interaction of labor market rigidities and trade impediments in shaping welfare, trade flows, productivity, price levels and unemployment rates. We show that both countries gain from trade but that the flexible country -- which has lower labor market frictions -- gains proportionately more. A flexible labor market confers comparative advantage; the flexible country exports differentiated products on net. A country benefits by lowering frictions in its labor market, but this harms the country's trade partner. And the simultaneous proportional lowering of labor market frictions in both countries benefits both of them. The model generates rich patterns of unemployment. Specifically, trade integration -- which benefits both countries -- may raise their rates of unemployment. Moreover, differences in rates of unemployment do not necessarily reflect differences in labor market rigidities; the rate of unemployment can be higher or lower in the flexible country. Finally, we show that the flexible country has both higher total factor productivity and a lower price level, which operates against the standard Balassa-Samuelson effect.
Keywords: No keywords provided
JEL Codes: F12; F16; J64
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Labor market frictions (J29) | Trade flows (F10) |
| Labor market frictions (J29) | Productivity (O49) |
| Labor market frictions (J29) | Price levels (E30) |
| Labor market frictions (J29) | Welfare (I38) |
| Labor market frictions (J29) | Unemployment (J64) |
| Lowering labor market frictions (J48) | Benefits to a country (O57) |
| Lowering labor market frictions (J48) | Harm to trade partner (F10) |
| Flexible country (O57) | Higher total factor productivity (O49) |
| Flexible country (O57) | Lower price level (E30) |
| Trade integration (F15) | Unemployment rates in both countries (F66) |
| Differences in unemployment rates (J64) | Differences in labor market rigidities (J48) |