Imperfect Labor Mobility and the Trickle-Down Effect in International Trade
21 Pages Posted: 30 Oct 2017 Last revised: 17 Dec 2017
Date Written: November 30, 2017
Purpose – Unlike the common belief in the so-called ‘trickle-down effect,’ trade-induced output growth in a small open economy does not necessarily improve the domestic welfare of the economy. This paper analyzes the conditions under which the trickle-down effect does not work properly such that the connection between trade-induced output growth and welfare improvement is broken.
Design/methodology/approach – This paper introduces an inter-sectoral migration barrier in the general equilibrium model and conducts various simulation experiments under reasonable parameter values.
Findings – This paper demonstrates that subsidizing export industries may raise the total value-added of an economy but deteriorate aggregate welfare. This worsens especially when the supply of non-tradable domestic goods is labor intensive and inelastic, and the demand for them is more substitutable by tradable goods.
Practical implications – To reinforce the trickle-down effect, it is necessary to facilitate efficient labor reallocation and to induce capitalization in the non-tradable sector.
Originality/value – That output growth and welfare improvement do not always move in the same direction requires a reappraisal of the trickle-down effect which emphasizes output growth as an indicator of welfare improvement.
Keywords: Imperfect labor mobility, Trickle-down effect, Export subsidy, International Trade
JEL Classification: F13, F16, F41, F62
Suggested Citation: Suggested Citation