A General Equilibrium Model of Bilateral Trade with Strategic Public Investment in Commercial Infrastructure

19 Pages Posted: 14 Aug 2019

See all articles by Meng-Fen Yen

Meng-Fen Yen

National Taiwan University - Department of Finance

Ruohan Wu

University of North Georgia

Mario Miranda

Ohio State University (OSU) - Department of Agricultural, Environmental & Development Economics

Date Written: 1 10, 2019

Abstract

We explore how public investment in commercial infrastructure affects the composition of trade between countries. To this end, we develop a model of bilateral trade in which two countries produce, consume, and trade a continuum of goods. Goods are produced by a single homogeneous factor, labor, the productivity of which depends on the quality of the country’s commercial infrastructure, broadly conceived to encompass transportation, communication, and power transmission networks; regulatory and legal institutions; and basic research and educational systems. Countries may improve the quality of their commercial infrastructures through increased public investment. However, returns on these investments are constrained by fixed “natural” endowments, with the better-endowed country enjoying greater labor productivity for a given level of public investment. We begin by analyzing optimal investment in public infrastructure in one country when public investment by the trading partner is fixed. We find that, ceteris paribus, greater public investment in commercial infrastructure raises general labor productivity, leading to gains in workers’ real income. We then analyze a non-cooperative game in which both countries strategically vary public investment in commercial infrastructure. We find that, in a Nash game, the better-endowed country optimally spends more on infrastructure and produces the goods requiring the greatest labor productivity. However, in a Stackelberg game, the results are ambiguous. An empirical analysis based on recent international trade data supports our theoretical finding that investment in public infrastructure is positively related to the export of “high-end” goods.

Keywords: International Trade, Comparative Advantage, Strategic Infrastructure Investment, Nash Game, Stackelberg Game

JEL Classification: F10, F14, F15, F19, H54

Suggested Citation

Yen, Meng-Fen and Wu, Ruohan and Miranda, Mario, A General Equilibrium Model of Bilateral Trade with Strategic Public Investment in Commercial Infrastructure (1 10, 2019). Available at SSRN: https://ssrn.com/abstract=3435872 or http://dx.doi.org/10.2139/ssrn.3435872

Meng-Fen Yen

National Taiwan University - Department of Finance

1, Sec. 4, Roosevelt Road
Taipei, 106
Taiwan

Ruohan Wu (Contact Author)

University of North Georgia ( email )

82 College Cir
Dahlonega, GA 30597
United States

Mario Miranda

Ohio State University (OSU) - Department of Agricultural, Environmental & Development Economics ( email )

2120 Fyffe Rd
Columbus, OH 43210-1067
United States

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
10
Abstract Views
248
PlumX Metrics