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Chap. 5 Economic Growth

and International Trade
5.0 Introduction
5.1 Economic Growth
5.2 Growth of Factors of Production
5.3 Technical Progress
5.4 Economic Growth and International
Trade: The Small-Country Case
5.5 Economic Growth and International
Trade: The Large-Country Case
5.0 Introduction
• Factors that generate international trade
change over time, both within and between
countries;
• Technological advance, capital
accumulation, acquisition of new skills, and
invention of new products are
commonplace in all dynamic economies.
They in turn change the ranking of
industries in terms of comparative
advantage.

Case Study 5-1 The Changing Comparative

Advantage----Japan’s Example
• Directly after World War II, Japan was an • In the dynamic world, factor endowment
underdeveloped and relatively labor-abundant changes over time, technology usually
country, exporting labor-intensive goods such improves;
as textiles;
• By the 1970s, Japan had become relatively
capital abundant, and began to export capital- • These changes affect comparative
intensive goods such as steel and automobiles; advantage, then international trade;
• By the 1980s and 1990s Japan was competing
with the U.S. in high-technology products,
including sophisticated instruments and
machinery, computers, robotics, office
automation and microchips.

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5.1 Economic Growth
• Two sources of economic growth:
the increasing in factor endowment;
factor-saving technological process;
• Economic growth is represented by an
outward shift of a country ’s production
possible frontier.
Figure 5-1 Biased Growth
(a)    Export-biased growth: (b)    Import-biased
growth biased toward rice growth: growth biased
   toward steel
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Two Patterns of the Biased Growth:
• Growth that disproportionately expands
a country’s production possibility frontier
in the direction of the good it exports is
export-biased growth.
• Growth that disproportionately expands
a country’s production possibility frontier
in the direction of the good it imports is
import-biased growth.
5.2 Growth of Factors of Production
The first source of economic growth is
the increasing of factor endowment.
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Basic assumptions of
Factors of Production
• The nation is producing two commodities (X,
L-intensive and Y, K-intensive) with two
factors of production (L and K) under
constant returns to scale;
• All units of labor and capital are
homogeneous;
Balanced Growth: when labor and capital grow
at the same rate, the nation ’s PPF shifts out
evenly in all directions.
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Growth of Factors and the Nation ’s PPF
• Through time, a nation’s population usually
grows and expands the size of its labor force.
And its stock of capital increases resulting
from saving and investment;
• An increase in the endowment of labor and
capital causes the nation ’s PPF to shift
outward;
• The different rate at which labor and capital
grow will result in different patterns of
growth:
balanced growth
unbalanced growth
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Whether the growth is export-biased

Figure 5-4 The growth of labor only
growth or import-biased growth depends
on which (X or Y) is export commodity:
and the Rybczyski Theorem

• If X is the nation’s export commodity,

the growth of labor expands its PPF
more in the direction of the production
of X, it is export-biased growth;
• The growth of capital expands its PPF
more in the direction of the production
of Y, it is import-biased growth;

5.3a Definition and Types of

5.3 Technical Progress
The second source of economic
growth is the factor-saving
technological progress.
Technical Progress
• The term “technology” is indicative of the fact
that technology is form of knowledge;
• Technology is the knowledge of doing
something----knowledge of a functional
technique;
• Technological progress relates to the
increased capability of a new or existing
technology to satisfy human wants for goods
and services and thus to enhance their
consumer value.

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5.3b Neutral Technical Progress

Types of Technical Progress
and the Nation’s PPF
• Neutral technical progress increases the
productivity of L and K in the same proportion;
• Labor-saving technical progress increases the
productivity of K proportionately more than the
productivity of L;
• Capital-saving technical progress increases the
productivity of L proportionately more than the
productivity of K;

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Whether the growth is export-biased
growth or import-biased growth depends
on which (X or Y) is export commodity:
• If X is the nation’s export commodity, and
neutral technical progress only happens in
the production of commodity X, the
technical progress expands its PPF more in
the direction of the production of X, it is
export-biased growth;
• The technical progress expands its PPF
more in the direction of the production of Y,
it is import-biased growth;
5.4a Effect of Import-biased Growth
in a Small Country
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5.4 Economic Growth and
International Trade:
The Small-Country Case
• The effect of growth on production,
consumption, trade and welfare;
• The small nation faces the same
relative commodity price before and
after growth;
5.4b Effect of Export-biased
Growth in a Small Country
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5.5a Terms of Trade

Definition and Measurement
• The terms of trade of a nation are defined as
5.5 Economic Growth and the ratio of the price of its export commodity to
the price of its import commodity.
International Trade:
The Large-Country Case
• In a two-nation, two-commodity model, the
exports of a nation are the imports of its trade
partner, so the terms of trade of the latter are
equal to the inverse of the terms of trade of the
former.

The Meaning of a Change in

• An improvement in a nation ’s terms of trade
a Nation’s Terms of Trade
is usually regarded as beneficial to the nation,
for the nation gains from getting more
imports with the same quantity of exports.

NOTE:
Since changes in a nation ’s terms of trade
are the result of many forces at work both in
the nation and in the rest of the world, and
we cannot determine their net effect on a
nation’s welfare by simply looking at the
change in the nation’s terms of trade.

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5.5b Effect of Import-biased
Growth in a Large Country
5.5d Immiserizing Growth: A
Special Case in Large Country
General Principle of the Terms-of-Trade
Effect of Growth in a Large Country:
• Import-biased growth tends to improve a
growing country’s terms of trade at the rest
of the world’s expense;
• Export-biased growth tends to worsen a
growing country ’s terms of trade, to the
benefit of the rest of the world;
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5.5c Effect of Export-biased
Growth in a Large Country
There is a case the export-biased
growth may worsen a growing county ’s
terms of trade so much, that the
country may be worse off than if it has
not grown at all, the situation is known
as immiserzing growth.
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Two Conditions for the Arising of

Immiserizing Growth:
• Economic growth must be in export
sector, and the nation’s export industry
plays important role in world market;
• The international demand for the
commodity is inelastic so that demand
will not increase with the falling price
and excessive supply of the commodity
will cause the price to fall a lot ;

• The main reason for immiserizing growth is

the deteriorate of terms of trade;
• In reality, exported-biased growth causes the
deteriorate of terms of trade in many countries,
while seldom decreases the welfare of the
whole country;
• Immiserizing Growth theoretical point
• It is provided for countries to get away from
such situation when they draw economic
development strategies;