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Unformatted text preview: International Trade& Lecture Note 2 Erzo G.J. Luttmer Department of Economics University of Minnesota Spring 2011 1. Introduction Di/erences across countries tend to give rise to incentives to trade. These could be di/erences in preferences. Economists tend to assume that the distribution of preferences is the same in di/erent countries across the world and emphasize other di/erences. Countries can be endowed with factors of production in di/erent amounts. Or they may have access to di/erent technologies. These di/erences can also evolve over time. The theory of international trade often sidesteps the time dimension and focuses on trade in a static economy. All our evidence comes from a world economy that is continuously changing over time. It is useful to begin with some simple dynamic theories. In the ¡rst half of these notes, there is only one consumption good that is consumed everywhere. The technology is such that output in each country varies over time, but not necessarily in the same way. Consumers want to smooth consumption over time and this provides a motive for trade. Two models are considered. In one, productivity varies across countries and over time. In the other, investment opportunities are di/erent. In the second half, goods consumed in di/erent locations are di/erent goods, by de¡nition. It may be costly or not possible at all to transport some goods between locations. This introduces the concept of a real exchange rate. 2. Intertemporal Trade and Productivity There are two countries with one representative consumer each. Both live for two pe riods, t = 0 and t = 1 , and are endowed with one unit of labor in each period. The representative consumer in country i has preferences over period and period 1 con sumption given by U ( c i; ;c i; 1 ) = u ( c i; ) + &u ( c i; 1 ) ; 1 where c i; is consumption in period and c i; 1 is consumption in period 1 . The period utility function u is strictly increasing and concave. The subjective discount factor & is positive. 2.1 Time Varying Productivity Consumption goods can be produced using labor. The technologies in period t are y H ;t & z H ;t l H ;t y F ;t & z F ;t l F ;t where y H ;t and y F ;t are output of consumption goods and l H ;t and l F ;t are labor inputs used in the home and foreign country, respectively. Thus z i;t is labor productivity in country i in period t . Consumption can be shipped form one country to the other at no cost. It cannot be stored. The aggregate resource constraint on consumption is therefore c H ;t + c F ;t & y H ;t + y F ;t in both periods. Labor is immobile. Thus l H ;t & 1 and l F ;t & 1 . 2.2 Markets In both periods, all prices in the two countries are denoted in some common numeraire or unit of account. The period t price of consumption is denoted by p t and the period t wage in country i is denoted by w i;t . Anyone can set up a &rm at no cost. A typical &rm in country i solves max y i;t ;l i;t f p t y i;t ¡ w i;t l i;t : y i;t & z i;t l i;t g...
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This note was uploaded on 02/24/2011 for the course ECON 4431H taught by Professor Erzo during the Spring '11 term at Minnesota.
 Spring '11
 Erzo
 Economics

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