Munich Personal RePEc Archive

A Dynamic Chamberlin-Heckscher-Ohlin
Model with Endogenous Time
Preferences: A Note
Iwasa, Kazumichi, Kikuchi, Toru and Shimomura, Koji
Kobe University
September 2007
Online at http://mpra.ub.uni-muenchen.de/4981/
MPRA Paper No. 4981, posted 07. November 2007 / 04:21
A Dynamic Chamberlin-Heckscher-Ohlin Model
with Endogenous Time Preferences: A Note

Kazumichi Iwasa

Toru Kikuchi

Koji Shimomura
§
September 20, 2007
Abstract
This note formulates a dynamic two-country (developed and developing
countries) Chamberlin-Heckscher-Ohlin model of trade with endogenous
time preferences a la Uzawa (1968). We examine the relationship be-
tween initial factor endowment differences and trade patterns in the steady
state. In particular, to highlight the integration of developing countries
(e.g., China) into the world trading system, we concentrate on the case of
asymmetric size of two countries (in terms of population). It will be shown
that (i) given that the representative household in each country supplies

We are grateful to the Associate Editor and two annonymous referees for helpful com-
ments. We acknowledge financial support from the Ministry of Education, Culture, Sports,
Science and Technology of Japan (the Grant-in-Aid for the 21st Century Center of Excellence
Project ‘Research and Education Center of New Japanese Economic Paradigm’).

Graduate School of Economics, Kobe University, 2-1 Rokkodai-cho, Nada-ku, Kobe 657-
8501, Japan

Corresponding author, Graduate School of Economics, Kobe University, 2-1 Rokkodai-
cho, Nada-ku, Kobe 657-8501, Japan; Tel: 81-78-803-6838; Fax: 81-78-803-6838; e-mail:
kikuchi@econ.kobe-u.ac.jp
§
Research Institute for Economics and Business Administration, Kobe University, 2-1
Rokkodai-cho, Nada-ku, Kobe 657-8501, Japan
1
an equal amount of labor, only intra-industry trade occurs in the steady
state irrespective of differences in the number of representative households
and that (ii) the number of households being equal, the country with less
labor efficiency becomes the net exporter of the capital-intensive good.
JEL Classification Code: F12
Key Words: dynamic Chamberlin-Heckscher-Ohlin model, developed and
developing countries, trade patterns
2
1 Introduction
In recent decades, many developing countries have opened their economies to
international trade. As an example, China’s integration into the world economy
is one of the most important developments affecting the structure and evolution
of the global trading system at the dawn of the 21st century. How does the
integration of developing countries into the world economy affect world trading
patterns?
It seems to be very important to consider this problem in a dynamic Heckscher-
Ohlin trade model. However, while the static Heckscher-Ohlin theorem holds
even if preferences and technologies are slightly different among countries, the
dynamic Heckscher-Ohlin theorem under the assumption of exogenous time pref-
erence that was proved by Chen (1992) holds only if preferences and technologies
are strictly identical among countries. In other words, under exogenous time
preferences, at least one of the two countries should specialize in one of the two
goods and it is very difficult to derive satisfactory results on trade patterns.
1
The state of the art in dynamic trade theory is apparently unsatisfactory. This
seems to suggest that the traditional focus on exogenous time preferences should
be accompanied by a focus on endogenous time preferences.
2
Thus, we address the question of developing countries’ integration in a dy-
namic Chamberlin-Heckscher-Ohlin (CHO) model with endogenous time pref-
erences a la Uzawa (1968), in which there is a monopolistically competitive
‘differentiated products’ sector, and a perfectly competitive ‘consumable capi-
tal’ sector.
3
Consider the world economy as consisting of one developed country
1
This was pointed out by Stiglitz (1970, p.463).
2
A non-constant time preference rate has been empirically documented through panel data
and cross-country data by Hong (1988), Lawrence (1991) and Ogawa (1993).
3
The static Chamberlin-Heckscher-Ohlin model has been extensively investigated. Help-
man’s (1981) seminal integration of the monopolistic competition trade model into the two-
3
and one developing country. The developed country reached a steady state be-
fore the developing country (which corresponds to China) started the process
of development (i.e., the removal of trade barriers). For simplicity, we call the
former Home and the latter Foreign. Then China’s decision to join the world
trading system represents the opening of trade between Home and Foreign.
Kikuchi and Shimomura (2007) examine a similar problem using a dynamic
two-country Chamberlin-Heckscher-Ohlin model.
45
They assume, however, that
both countries are endowed with an equal number of households. Thus the role
of size differences in factor endowment is downplayed in the analyses. In the
real world, there is a significant size difference between developed and devel-
oping countries. For example, China’s population is 20 percent of the world
population. To our knowledge, little attention has been given to the relation-
ship between timing of development and the size of developing countries. Thus,
it is important to consider the case of the asymmetric size of countries.
In this note, we extend the analysis of Kikuchi and Shimomura (2007) to the
case of asymmetric size of two countries (in terms of population). We demon-
strate that, given that the representative household in each country supplies an
equal amount of labor, only intra-industry trade occurs in the steady state irre-
spective of differences in the number of representative households. Even if there
country by two-factor by two-good Heckscher-Ohlin (HO) framework, which was extended
and made popular by Helpman and Krugman (1985), has led to the widely held belief that
HO and Chamberlinian monopolistic competition are complementary in nature.
4
Atkeson and Kehoe (2000) examine a similar problem using a dynamic Heckscher-Ohlin
model composed of a larger number of small open economies.
5
The literature on dynamic two-country models originated in Oniki and Uzawa (1965).
While they assume exogenous saving rate in each trading country, most subsequent contribu-
tions, including Stiglitz (1970), Chen (1992), Shimomura (1992, 1993, 2004), Ventura (1997),
Nishimura and Shimomura (2002, 2006), assume that households maximize their discounted
sum of utility, i.e., saving rates are endogenously determined. Chen, Nishimura and Shimo-
mura (2005) discuss other major problems within dynamic HO models.
4
is a larger amount of labor (in terms of population) in the developing country,
due to catching-up by the developing country, sources of inter-industry trade
based on differences in the capital-labor ratio vanish and only intra-industry
trade occurs in the steady state.
This note is organized as follows. Section 2 sets up a dynamic CHO model
and Section 3 discusses the existence, uniqueness and local stability of the steady
state. Section 4 derives trade-pattern propositions. Section 5 provides conclud-
ing remarks.
2 The Model
Consider a world economy consisting of two countries, Home and Foreign, that
differ in their factor endowments. There are two types of commodities, differen-
tiated products (Good 1) and a consumable capital (Good 2), produced using
reproducible capital, k, and a primary and time-invariant factor of production, l
(labor). The consumable capital can be either consumed as a non-durable good
or added to the existing capital stock. Labor is measured in efficiency units.
Each Home (resp. Foreign) representative household supplies l (l

) units of ef-
ficiency labor. The population of each country is assumed to be constant over
time. The Home (resp. Foreign) population is m (resp. m

). Thus, the Home
(resp. Foreign) household is endowed with ml and mk (resp. m

l

and m

k

)
units of factors of production. Note that Kikuchi and Shimomura (2007)’s case
corresponds to m = m

= 1.
Following the standard trade theory, we assume away international factor
movements. Moreover, in order to focus on international trade, we assume that
there is no international credit market, while there is a competitive domestic
credit market in each country.
5
Each consumer maximizes the discounted sum of utility.


0
uXdt =


0
f [U(V, C
2
)] Xdt, (1)
˙
X = −ρ(u)X, (2)
where V is the quantity index for differentiated products, C
2
is the consumption
of the consumable capital, and X ≡ exp{−

t
0
ρ(u)dτ} is the discount factor at
time t which depends on the past and present level of utility through the function
ρ.
Following Uzawa (1968), we assume that the variable discount rate ρ(u)
satisfies
ρ(0) > 0, ρ

(u) ≡
dρ(u)
du
> 0, ρ

(u) ≡
d
2
ρ(u)
du
2
> 0,
0 < θ
ρ
≡ [uρ

(u)/ρ(u)] < 1 for any positive u < ∞. (3)
It will be assumed that U is linearly homogeneous in its arguments and f
satisfies
f(0) = 0, f

(U) > 0, f

(U) < 0. (4)
Quantity index V takes the following Dixit-Stiglitz (1977) form:
V =
¸

N
0
x(i)
(σ−1)/σ
di
¸
σ/(σ−1)
, σ > 1, (5)
where N is the total number of differentiated products, x(i) is the consumption of
the i-th variety of differentiated products, and σ is the elasticity of substitution
between varieties.
Solving the static expenditure minimizing problem, we can define the expen-
diture function as
e(P)ψ(u) ≡ (minPV +C
2
, s.t., u = f [U(V, C
2
)]) , (6)
6
where the consumable capital serves as the numeraire, P ≡

N
0
p(i)
1−σ
di

1/(1−σ)
is the price index for differentiated products, and ψ(u) is the inverse function
of f, which clearly satisfies
ψ(0) = 0, ψ

(u) > 0, ψ

(u) > 0. (7)
Given that the equilibrium is symmetric, that is, p(i) = p and x(i) = x for

i ∈ [0, N], we can obtain the following condition from the envelope theorem,
∂e(P)ψ(u)/∂P = V .
e

[N
1/(1−σ)
p]ψ(u) = N
σ/(σ−1)
x
or N
1/(1−σ)
e

[N
1/(1−σ)
p]ψ(u) = Nx.
Assume that differentiated products are more capital-intensive than the con-
sumable capital.
6
Differentiated products are produced by monopolistically
competitive firms under increasing returns technology, while the consumable
capital is produced by competitive firms under constant returns technology.
Assume that each firm in the differentiated products sector has the homothetic
total cost function c
1
(w, r)φ(y), where y is the output level of each firm. There
are significant economies of scale: φ(y)/y is decreasing over the relevant range
of output levels y. The marginal revenue will be equated to the marginal cost:
p [1 −(1/σ)] = c
1
(w, r)φ

(y).
7
Furthermore, free entry implies that price equals
6
This assumption is just for simplification and this capital intensity ranking itself does not
alter the results of this paper.
7
We can obtain this relation as follows. Considering the subutility maximization problem:
max V, s.t.,
R
N
0
p(i)x(i)di ≤ I, we obtain the inverse demand function of i-th variety as
follows: p(i) = [P
(σ−1)
I/x(i)]
1/σ
. Therefore, the revenue of the i-th firm is given by
π
i
= p(i)x(i) −c
1
(w, r)φ[x(i)]
= [P
(σ−1)
Ix(i)
(σ−1)
]
1/σ
−c
1
(w, r)φ[x(i)].
and the first order condition, dπ
i
/dx(i) = 0, yields p(i) [1 −(1/σ)] = c
1
(w, r)φ

[x(i)].
7
average cost: p = [c
1
(w, r)φ(y)]/y. By combining these conditions, one can eas-
ily see that all varieties will have the same output level ¯ y, which is defined
by
8
1 −
1
σ
=
¯ yφ

(¯ y)
φ(¯ y)
.
The constraints on labor and capital within Home are
9
c
1
w
(w, r)φ(¯ y)n +c
2
w
(w, r)y
2
= ml, (8)
c
1
r
(w, r)φ(¯ y)n +c
2
r
(w, r)y
2
= mk, (9)
where n is the number of differentiated products produced in Home and c
2
(w, r)
and y
2
are the unit cost function and the output of the consumable capital,
respectively.
Then, by defining ξ ≡ ¯ y/φ(¯ y), the zero-profit conditions can be written as
ξp = c
1
(w, r), (10)
1 = c
2
(w, r), (11)
and we can obtain the factor price functions w(ξp) and r(ξp). Utilizing these
factor price functions, the national income is shown as
r(ξp)mk +w(ξp)ml. (12)
The partial derivative of the national income with respect to the price of differ-
8
This result depends crucially on homotheticity in production. See Dixit and Norman
(1980, pp. 284–5). To guarantee the existence and uniqueness of ¯ y, we assume that φ satisfies
φ

(0) < ∞, φ

(0) > −∞, lim
y→∞
θ
φ
< 1 −
1
σ
, and

φ
dy
< 0 for any positive y < ∞,
where θ
φ
≡ [yφ

(y)/φ(y)]. An example of φ(y) is ln(y + 1).
9
As it is clear from these equations, any country’s population size does not affect its relative
factor abundance in the static sense. Our aim is to check whether population size affects long-
run capital accumulation.
8
entiated products, p, is equal to the aggregate national output of those products:
n¯ y = ξr

(ξp)mk +ξw

(ξp)ml. (13)
From (12), we can obtain another condition for each household:
˙
k = r(ξp)k +w(ξp)l −e[N
1/(1−σ)
p]ψ(u). (14)
Each household maximizes (1) subject to both (2) and (14). Associated with
this problem is the Hamiltonian
H ≡ uX +λ{r(ξp)k +w(ξp)l −e[N
1/(1−σ)
p]ψ(u)} −δρ(u)X, (15)
where λ and δ are the shadow prices of k and X. The necessary conditions for
optimality are
0 = X −λe[N
1/(1−σ)
p]ψ

(u) −δρ

(u)X, (16)
˙
λ = −λr, (17)
˙
δ = ρ(u)δ −u. (18)
Letting Z ≡ λ/X and combining (2) and (17), we can obtain
˙
Z = Z[ρ(u) −r(ξp)]. (19)
Based on the foregoing argument, our dynamic general equilibrium two-
9
country model is described as
˙
k = r(ξp)k +w(ξp)l −e[N
1/(1−σ)
p]ψ(u), (20)
˙
k

= r(ξp)k

+w(ξp)l

−e[N
1/(1−σ)
p]ψ(u

), (21)
˙
Z = Z[ρ(u) −r(ξp)], (22)
˙
Z

= Z

[ρ(u

) −r(ξp)], (23)
˙
δ = ρ(u)δ −u, (24)
˙
δ

= ρ(u



−u

, (25)
0 = 1 −Ze[N
1/(1−σ)
p]ψ

(u) −δρ

(u), (26)
0 = 1 −Z

e[N
1/(1−σ)
p]ψ

(u

) −δ

ρ

(u

), (27)
0 = N¯ y −ξ[r

(ξp)(mk +m

k

) +w

(ξp)(ml +m

l

)], (28)
0 = e

[N
1/(1−σ)
p]N
1/(1−σ)
[mψ(u) +m

ψ(u

)] −N¯ y. (29)
The system determines the equilibrium path of two state variables, k and k

,
and eight jump variables, Z, Z

, δ, δ

, u, u

, p, and N.
10
3 The Steady State
The steady state is the solution for the system of equations
0 = r(ξp)k +w(ξp)l −e[N
1/(1−σ)
p]ψ(u), (30)
0 = r(ξp)k

+w(ξp)l

−e[N
1/(1−σ)
p]ψ(u

), (31)
0 = ρ(u) −r(ξp), (32)
0 = ρ(u

) −r(ξp), (33)
0 = ρ(u)δ −u, (34)
0 = ρ(u



−u

, (35)
0 = 1 −Ze[N
1/(1−σ)
p]ψ

(u) −δρ

(u), (36)
0 = 1 −Z

e[N
1/(1−σ)
p]ψ

(u

) −δ

ρ

(u

), (37)
0 = N¯ y −ξ[r

(ξp)(mk +m

k

) +w

(ξp)(ml +m

l

)], (38)
0 = e

[N
1/(1−σ)
p]N
1/(1−σ)
[mψ(u) +m

ψ(u

)] −N¯ y. (39)
For a given p, if
ρ(0) < r(ξp),
then there exists a unique and positive u such that
ρ(u) = r(ξp).
Let u(·) be the inverse function of ρ(·).
10
Since the shadow prices, Z, Z

, δ, δ

,
are derived once the above system of equations determines p, k, k

, N, we see
10
As is clear from (32) and (33), u = u

holds at the steady state in which both countries
are incompletely specialized.
11
that the main system consists of the four equations:
0 = r(ξp)k +w(ξp)l −e[N
1/(1−σ)
p]ψ[u(r(ξp))], (40)
0 = r(ξp)k

+w(ξp)l

−e[N
1/(1−σ)
p]ψ[u(r(ξp))], (41)
N¯ y = ξ[r

(ξp)(mk +m

k

) +w

(ξp)(ml +m

l

)], (42)
N¯ y = e

[N
1/(1−σ)
p]N
1/(1−σ)
{mψ[u(r(ξp))] +m

ψ[u(r(ξp))]}. (43)
Now, we can restate Kikuchi and Shimomura (2007)’s result.
Proposition 1: Suppose that differences in initial factor endowments between
Home and Foreign are not very large and that both the preference of each house-
hold and production technologies take the Cobb-Douglas form. Then there exists
a unique steady state which is saddle-point stable. In the steady state both coun-
tries produce both goods.
Proof: See Appendix.
4 Trade-Pattern Propositions
Let us focus on the Home (gross) excess demand for differentiated products in
the steady state,
11
ED
1
≡ m{e

[N
1/(1−σ)
p]N
1/(1−σ)
ψ(u) −ξ[r

(ξp)k +w

(ξp)l]}.
Considering the steady-state Home budget constraint, (40), we obtain
k =
eψ −wl
r
.
11
As we will see later, even if ED
1
= 0 holds, there is an incentive for trade due to product
differentiation. Thus, ED
1
(pED
1
) can be interpreted as the Home gross excess demand for
differentiated products (the Home excess supply of the consumable capital).
12
Substituting this into the Home excess demand and rearranging, we obtain the
following condition:
ED
1
= (m/p)[eψ(θ
e
−θ
r
) +wl(θ
r
−θ
w
)], (44)
where θ
e
≡ [pe

N
1/(1−σ)
/e], θ
r
≡ (ξpr

/r), and θ
w
≡ (ξpw

/w), respectively.
Following the same procedure, we can obtain the Foreign excess demand for
differentiated products in the steady state, ED

1
:
ED

1
= (m

/p)[eψ(θ
e
−θ
r
) +wl


r
−θ
w
)]. (45)
From these excess demand functions, we see that
ED
1
−ED

1
= (1/p)[eψ(θ
e
−θ
r
)(m−m

) +w(θ
r
−θ
w
)(ml −m

l

)]. (46)
Since differentiated products are assumed to be capital intensive,
θ
r
> 1 > θ
e
> 0 > θ
w
holds. Let us examine the following two cases.
4.1 Case A: m < m

and l = l

If the representative household in each country supplies an equal amount of
labor (l = l

), the gross excess demands for differentiated products have the
same sign in both countries (see (44) and (45)). Since demands have to add up
to zero, this implies that both of them have to be zero and, therefore, there is no
net trade (the value of imports equals the value of exports) in the differentiated
products sector. This also implies that there is no incentive for inter-industry
trade (i.e., the exchange of differentiated products for the consumable capital).
Still, since each country specializes in a different range of differentiated products,
an incentive for intra-industry trade remains. We obtain our main proposition
on the patterns of intra-industry trade.
13
Proposition 2: Suppose that the representative household in each country sup-
plies an equal amount of labor. Then, in the steady state, only intra-industry
trade of differentiated products between countries occurs irrespective of differ-
ences in the number of households.
This case provides a complementary view for the existence of intra-industry
trade between developed and developing countries. We implicitly assume that
Foreign (the developing country) started the process of development late (i.e.,
its capital stock is relatively low initially). Then, Proposition 1 and Proposition
2 state that Foreign accumulates capital until its capital-labor ratio equals that
of Home.
12
Therefore, due to catching-up by the developing country, sources of
inter-industry trade based on differences in the capital-labor ratio vanish and
only intra-industry trade occurs in the steady state. Furthermore, since Foreign
has a larger amount of labor, that is, m < m

, its share of differentiated products
in the world market also becomes larger than Home. Note that, in the steady
state, the share of Foreign varieties [n

/(n+n

)] is equal to the share of Foreign
households [m

/(m+m

)]. Our dynamic model reinforces the role of increasing
returns and monopolistic competition as determinants of intra-industry trade:
the importance of intra-industry trade remains in the dynamic setting while
that of inter-industry trade is downplayed.
4.2 Case B: m = m

and l > l

In this case, each Foreign household is relatively less efficient in providing la-
bor. And also, assume that capital-labor endowment ratio is lower in Foreign
12
This point contrasts sharply with Atkeson and Kehoe (2000), in which the developing
country accumulates capital until its capital-labor ratio equals the ratio used in the rest of
the world to produce the labor-intensive good: the developing country never catches up in this
setting.
14
initially. Since we assume that each household in both countries has the same
instantaneous discount function, u = u

holds at the steady state (see (32) and
(33)). Therefore, from (30) and (31), each Foreign household accumulates more
capital (i.e., k < k

). Then, ED
1
−ED

1
> 0 holds and Foreign becomes a net
exporter of differentiated products (i.e., capital intensive products) although it
is a labor-rich country at the initial moment.
13
Proposition 3: If the number of households is equal, the country with lower
labor efficiency becomes the net exporter of the capital-intensive good.
This case highlights that the source of inter-industry trade crucially depends
on the efficiency of each household, not on the number of households. It also
highlights the importance of capital accumulation in dynamic trade patterns.
Again, in this case, Foreign’s share of differentiated products in the world market
becomes larger than Home’s.
5 Concluding Remarks
Based on the two-sector Chamberlin-Heckscher-Ohlin (CHO) framework, this
note has formulated a dynamic model of international trade by introducing the
Uzawa (1968) endogenous time preferences. Also, in contrast to Kikuchi and
Shimomura (2007), the difference in the number of households has been em-
phasized. We have shown that there exists a unique and saddlepoint-stable
steady state that is independent of the initial international distribution of capi-
tal. In that steady state production in both countries is incompletely specialized
(Proposition 1). Making use of the new dynamic trade model, we have shown
that, (i) given that the representative household in each country supplies an
13
The case of m < m

and ml > m

l

can be analyzed in a similar way.
15
equal amount of labor (l = l

), only intra-industry trade occurs in the steady
state irrespective of differences in the number of households (Proposition 2), (ii)
if the number of households is equal, the country with higher labor efficiency
becomes the net exporter of the labor-intensive good (Proposition 3). Proposi-
tions 2 and 3 highlight the dominance of the developing country in the world
economy: although its capital-labor ratio is lower than that of the developed
country, capital accumulation makes it a major exporter of differentiated prod-
ucts. Although our result depends critically on several restrictive assumptions
(e.g., Uzawa’s endogenous time preferences), it establishes a link between the
workhorse model of monopolistic competition and the size of labor endowment.
Hopefully this analysis provides a useful paradigm for considering how the la-
bor endowment of developing countries (e.g., China) works as a determinant of
world trade patterns.
16
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The Case of Japan and East Asian NICs,’ Journal of Development Eco-
nomics 42, 175–195.
[15] Oniki, H., and H. Uzawa (1965) ‘Patterns of Trade and Investment in a
Dynamic Model of International Trade,’ Review of Economic Studies 32,
15–38.
[16] Shimomura, K. (1992) ‘A Two-Sector Dynamic General Equilibrium Model
of Distribution,’ in G. Feichtinger, ed., Dynamic Economic Models and Op-
timal Control, North-Holland, 105-123.
[17] Shimomura, K. (1993) ‘Durable Consumption Goods and the Pattern of
International Trade,’ in H. Herberg and N. V. Long, eds., Trade, Welfare,
and Economic Policies: Essays in Honor of Murray C. Kemp, Michigan
University Press, 103–112.
[18] Shimomura, K. (2004) ‘Indeterminacy in a Dynamic General Equilibrium
Model of International Trade,’ in M. Boldrin, B.-L. Chen and P. Wang, eds.,
18
The Development Process of Rapidly Growing Economies: From Theory to
Empirics, Cheltenham, UK, Edward Elgar Publishing Inc. Chapter 7, 153–
167.
[19] Stiglitz, J. E. (1970) ‘Factor Price Equalization in a Dynamic Economy,’
Journal of Political Economy 78, 456–488.
[20] Uzawa, H. (1968) ‘Time Preferences, the Consumption Function, and Opti-
mal Asset Holdings,’ in J. N. Wolfe, ed., Value, Capital and Growth: Papers
in Honour of Sir John Hicks, University of Edinburgh Press: Edinburgh,
485–504.
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Economics 112, 57–84.
19
6 Appendix: Existence, Uniqueness and Stabil-
ity of the Steady State with Incomplete Spe-
cialization in Both Countries
Here, we shall prove the existence, uniqueness and stability of the steady state
with incomplete specialization in the present two-country dynamic general equi-
librium model. We shall focus on the symmetric case where preferences, tech-
nologies, and initial factor endowments are common between Home and Foreign
(m = m

= 1, l = l

). As we shall show later, the determinant of the Jacobian
at a symmetrical steady state is not zero, which implies that as long as the
international differences in those economic fundamentals are not very large, the
existence, uniqueness and stability are guaranteed.
6.1 Existence
Let us consider the existence of the steady state. Since we assume l = l

, it
is clear from (30)-(33) that k = k

holds at the steady state. Therefore, the
system of equations which describes the steady-state k, p, and N becomes
0 = r(ξp)k +w(ξp)l −e[N
1/(1−σ)
p]ψ[u(r(ξp))], (47)
N¯ y = 2ξ[r

(ξp)k +w

(ξp)l], (48)
N¯ y = 2e

[N
1/(1−σ)
p]N
1/(1−σ)
ψ[u(r(ξp))]. (49)
From (47),
k =
eψ −wl
r
(50)
holds. Combining (48) −(49), one can obtain
0 = e

N
1/(1−σ)
ψ −ξ(r

k +w

l).
20
Substituting (50) into this, one can obtain
0 = e

N
1/(1−σ)
ψ −ξ
¸
r

r
(eψ −wl) +w

l

.
Multiplying p and rewriting this in terms of elasticity,
0 = θ
e
eψ −[θ
r
(eψ −wl) +θ
w
wl],
where θ
e
= [pe

N
1/(1−σ)
/e], θ
r
= (ξpr

/r), and θ
w
= (ξpw

/w), respectively.
Rearranging this, we obtain:
eψ = Θwl, (51)
where Θ ≡ [(θ
r
−θ
w
)/(θ
r
−θ
e
)], which is greater than 1.
Next, multiplying p to (49), one can obtain
pN¯ y = 2eψ
pe

N
1/(1−σ)
e
or N =

e
p¯ y
eψ. (52)
Substituting (51) into (52), one can obtain
N =

e
p¯ y
Θw(ξp)l. (53)
In terms of proportional change, we obtain the first relationship between N and
p:
14
ˆ
N
ˆ p
= θ
w
−1. (54)
Since the differentiated products are capital-intensive, that is, θ
w
< 0, (54)
implies that N is decreasing in p: we can depict (53) as Curve AA in Figure
1.
15
14
Note that θ
e

r
and θ
w
) is constant when the preference (the production technologies)
takes the Cobb-Douglas form.
15
It can be easily shown that the right-hand side of (53) goes to ∞ (0) when p goes to 0
(∞).
21
Now, let us turn to the other condition. From (51),
e[N
1/(1−σ)
p] =
Θw(ξp)l
ψ[u(r(ξp))]
.
Let e
−1
≡ β, then we can obtain:
N
1/(1−σ)
p = β

Θw(ξp)l
ψ[u(r(ξp))]

.
Rearranging this, one can obtain
N =
¸
p
β(Θw(ξp)l/ψ[u(r(ξp))])

σ−1
. (55)
In terms of proportional change, we obtain the second relationship between N
and p.
ˆ
N
ˆ p
= (σ −1)
¸
1 −
1
θ
e

θ
w

θ
r
θ
ψ
θ
ρ

, (56)
where θ
ψ
≡ [uψ

(u)/ψ(u)] and θ
ρ
= [uρ

(u)/ρ(u)]. Since θ
ψ
and θ
ρ
are positive,
(56) implies that N is increasing in p: we can depict (55) as Curve BB in Figure
1.
16
Based on the foregoing argument, one can conclude as follows.
17
LEMMA A1: There uniquely exists a steady state in which production is
incompletely specialized.
16
Let us define p as the solution of u(r(ξp)) = 0 ⇐⇒ r(ξp) = ρ(0). Then,
lim
p→p
β(Θw(ξp)l/ψ[u(r(ξp))]) = ∞, which implies that the right-hand side of (55) goes
to 0 when p goes to p. On the other hand, the right-hand side of (55) goes to ∞ when p goes
to ∞.
17
It is apparent from (50) and (51) that the steady-state capital stock is positive.
22
OOO
p
N
p
p
N
A
A
B
B
Figure 1
6.2 The Non-Existence of the Steady State with Complete
Specialization in Home and/or Foreign
Now, what remains to be argued concerning uniqueness is to exclude a steady
state where at least one country is completely specialized. For this purpose, let
us consider the whole GDP function. In the case where the differentiated prod-
ucts are more capital-intensive than the homogeneous good, it can be expressed
as follows.
F(k, ξp) =

f
2
(k, l), 0 < k < k
2
(ξp),
r(ξp)k +w(ξp)l, k
2
(ξp) < k < k
1
(ξp),
pf
1
(k, l, ¯ y), k > k
1
(ξp),
where k
i
(ξp) ≡ l{c
i
r
[w(ξp), r(ξp)]/c
i
w
[w(ξp), r(ξp)]}, and f
1
(k, l, ¯ y) ≡ ¯ yn(k, l, ¯ y).
18
Making use of the above GDP function, we can express the steady-state Home
18
For the derivation of the monopolistically competitive industry’s implicit production func-
tion, f
1
, see Helpman and Krugman (1985, p. 139).
23
and Foreign budget constraints as
0 = F(k, ξp) −e[N
1/(1−σ)
p]ψ[u(F
k
(k, ξp))], (57)
0 = F(k

, ξp) −e[N
1/(1−σ)
p]ψ[u(F
k
(k

, ξp))]. (58)
If k > k

, then both F(k, ξp) > F(k

, ξp) and F
k
(k, ξp) ≤ F
k
(k

, ξp) hold from
properties of the GDP function and vice versa. Thus, (57) and (58) together
imply that there is no steady state such that k = k

holds. Therefore, we can
conclude as follows.
LEMMA A2: When the two countries are sufficiently close in terms of factor
endowment ratio, no country can specialize in producing only one good in the
steady state.
6.3 Local Saddlepoint-Stability
Let us assume that the two countries are identical. Let us consider the Jacobian
matrix of the steady state,

ρ 0 0 0 0 0 −eψ

0
p¯ y
2(σ−1)
0
0 ρ 0 0 0 0 0 −eψ
p¯ y
2(σ−1)
0
0 0 0 0 0 0 Zρ

0 0 −Zξr

0 0 0 0 0 0 0 Zρ

0 −Zξr

0 0 0 0 ρ 0 −Zeψ

0 0 0
0 0 0 0 0 ρ 0 −Zeψ

0 0
0 0 −eψ

0 −ρ

0
−Zeψ

−δρ

0
Zp¯ yψ

2(σ−1)ψ

Z¯ yNψ


0 0 0 −eψ

0 −ρ

0
−Zeψ

−δρ

Zp¯ yψ

2(σ−1)ψ

Z¯ yNψ


−ξr

−ξr

0 0 0 0 0 0 ¯ y −2ξ
2
(r

k +w

l)
0 0 0 0 0 0
¯ yNψ


¯ yNψ


θ
e
σ−1
+ 1

¯ y 2ψe

N
2/(1−σ)
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
¸
.
24
Denote the above matrix by J, and the corresponding eigenvalue as x. Then
x is determined by the characteristic equation Ω(x) = |J − xI| = 0, where
I ≡

I
6
0
0 O
4
¸
¸
¸.
Let us make the following calculations to obtain the above determinant.
First, let us add both the first row multiplied by ξr

/(ρ−x) and the second row
multiplied by ξr

/(ρ−x) to the 9th row. Next, the 7th row minus the third row
multiplied by eψ

/x, and the 8th row minus the 4th row multiplied by eψ

/x.
Finally, we add the 5th row multiplied by ρ

/(ρ − x) to the 7th row, and add
the 6th row multiplied by ρ

/(ρ −x) to the 8th row. Then, we see that
Ω(x) = (ρ −x)
4
x
2

Ξ(x)
x(ρ−x)
0
pZ¯ yψ

2(σ−1)ψ

Z¯ yNψ


+

Zξr

x
0
Ξ(x)
x(ρ−x)
pZ¯ yψ

2(σ−1)ψ

Z¯ yNψ


+

Zξr

x

ξr

ρ−x

ξr

ρ−x
¯ y +
pξr

¯ y
(ρ−x)(σ−1)
−2ξ
2
(r

k +w

l)
¯ yNψ


¯ yNψ


θ
e
σ−1
+ 1

¯ y 2ψe

N
2/(1−σ)

= (ρ −x)
×

Ξ(x) 0
(ρ−x)xpZ¯ yψ

2(σ−1)ψ
(ρ −x)x


Z¯ yNψ


+

Zξr

x

0 Ξ(x)
(ρ−x)xpZ¯ yψ

2(σ−1)ψ
(ρ −x)x


Z¯ yNψ


+

Zξr

x

−ξr

−ξr

(ρ −x)¯ y +
pξr

¯ y
σ−1
−2(ρ −x)ξ
2
(r

k +w

l)
¯ yNψ


¯ yNψ


θ
e
σ−1
+ 1

¯ y 2ψe

N
2/(1−σ)

,
where Ξ(x) ≡ (Zeψ

+δρ

)x
2
−ρ(Zeψ

+δρ

)x −Zeψ

ρ

ρ.
When the first column is subtracted from the second column, we obtain
Ω(x) = (ρ −x)Ξ(x)
×

1 0
(ρ−x)xpZ¯ yψ

2(σ−1)ψ
(ρ −x)x


Z¯ yNψ


+

Zξr

x

−1 Ξ(x)
(ρ−x)xpZ¯ yψ

2(σ−1)ψ
(ρ −x)x


Z¯ yNψ


+

Zξr

x

0 −ξr

(ρ −x)¯ y +
pξr

¯ y
σ−1
−2(ρ −x)ξ
2
(r

k +w

l)
0
¯ yNψ


θ
e
σ−1
+ 1

¯ y 2ψe

N
2/(1−σ)

.
For Ω(x) = 0, we have x
1
= ρ > 0. Furthermore, from Ξ(x) = 0, we have
25
x
2
> 0 > x
3
such that Ω(x
2
) = Ω(x
3
) = 0, since all of the first and second
derivatives of ψ and ρ are positive.
Next, when the 1st row is added to the 2nd row, we obtain
Ω(x) = (ρ −x)Ξ(x)
×

1 0
(ρ−x)xpZ¯ yψ

2(σ−1)ψ
(ρ −x)x


Z¯ yNψ


+

Zξr

x

0 Ξ(x)
(ρ−x)xpZ¯ yψ

(σ−1)ψ
(ρ −x)x


Z¯ yNψ

ψ
+
2eψ

Zξr

x

0 −ξr

(ρ −x)¯ y +
pξr

¯ y
σ−1
−2(ρ −x)ξ
2
(r

k +w

l)
0
¯ yNψ


θ
e
σ−1
+ 1

¯ y 2ψe

N
2/(1−σ)

= (ρ −x)Ξ(x)¯ y
×

Ξ(x)
(ρ−x)xpZψ

(σ−1)ψ
(ρ −x)


xZ¯ yNψ

ψ
+ 2eψ

Zξr

−ξr

ρ −x +
pξr

σ−1
−2(ρ −x)ξ
2
(r

k +w

l)
¯ yNψ


θ
e
σ−1
+ 1

2ψe

N
2/(1−σ)

≡ (ρ −x)Ξ(x)¯ yA(x).
According to A(x), the term on x
3
becomes
−(Zeψ

+δρ

)2ψe

N
2/(1−σ)

¯ yNψ


·
pZψ

(σ −1)ψ

2
(r

k +w

l)
+
¯ yNψ


·
¯ yNZψ

ψ
+ (Zeψ

+δρ

)2ξ
2
(r

k +w

l)

θ
e
σ −1
+ 1

,
where only the second term is negative, since the term, r

k + w

l, is positive
due to the convexity of the GDP function with respect to p. Therefore, the term
on x
3
becomes positive if σ is sufficiently large, which we assume.
19
Then, if
19
Indeed, it can be shown that the sum of the second term and the third one becomes
positive if σ > [(θ
r
r

k + θ
w
w

l)/(r

k + w

l)].
26
A(0) > 0 holds, A(x) = 0 has one negative root x
4
.
A(0) = 2eψ

ρ
×

−Zρ

0 Zξr

−ξr

ρ +
pξr

σ−1
−ρξ
2
(r

k +w

l)
¯ yNψ


θ
e
σ−1
+ 1

ψe

N
2/(1−σ)

= 2eψ

ρZ
×

−ρ

ρ

1 +
θ
r
σ−1

ψe

N
2/(1−σ)
+ (ξr

)
2

θ
e
σ−1
+ 1

−ξr

ρ

1 +
θ
r
σ−1

e

N
1/(1−σ)
ψ

+ ρ

ρξ
2
(r

k +w

l)

θ
e
σ−1
+ 1

¸
¸
¸,
which is positive, since the sum of the second term and the third one in the
square brackets becomes
ξr

ρ
p
¸
pξr

r

θ
e
σ −1
+ 1


pe

N
1/(1−σ)
e

1 +
θ
r
σ −1

=
ξr

ρ
p

r
−θ
e
)
> 0.
Therefore, there are two negative characteristic roots, i.e., x
3
and x
4
. Since
there are two state variables, k and k

, it follows that the steady state is a
saddle point.
LEMMA A3: When the two countries are sufficiently close, the steady state
with both countries being incompletely specialized is locally saddlepoint-stable.
27

A Dynamic Chamberlin-Heckscher-Ohlin Model with Endogenous Time Preferences: A Note∗
Kazumichi Iwasa† Toru Kikuchi‡ September 20, 2007 Koji Shimomura§

Abstract This note formulates a dynamic two-country (developed and developing countries) Chamberlin-Heckscher-Ohlin model of trade with endogenous time preferences a la Uzawa (1968). We examine the relationship between initial factor endowment differences and trade patterns in the steady state. In particular, to highlight the integration of developing countries (e.g., China) into the world trading system, we concentrate on the case of asymmetric size of two countries (in terms of population). It will be shown that (i) given that the representative household in each country supplies
∗ We

are grateful to the Associate Editor and two annonymous referees for helpful com-

ments. We acknowledge financial support from the Ministry of Education, Culture, Sports, Science and Technology of Japan (the Grant-in-Aid for the 21st Century Center of Excellence Project ‘Research and Education Center of New Japanese Economic Paradigm’). † Graduate School of Economics, Kobe University, 2-1 Rokkodai-cho, Nada-ku, Kobe 6578501, Japan ‡ Corresponding author, Graduate School of Economics, Kobe University, 2-1 Rokkodaicho, Nada-ku, Kobe 657-8501, Japan; Tel: 81-78-803-6838; Fax: 81-78-803-6838; e-mail: kikuchi@econ.kobe-u.ac.jp § Research Institute for Economics and Business Administration, Kobe University, 2-1 Rokkodai-cho, Nada-ku, Kobe 657-8501, Japan

1

only intra-industry trade occurs in the steady state irrespective of differences in the number of representative households and that (ii) the number of households being equal. the country with less labor efficiency becomes the net exporter of the capital-intensive good. trade patterns 2 . developed and developing countries.an equal amount of labor. JEL Classification Code: F12 Key Words: dynamic Chamberlin-Heckscher-Ohlin model.

in which there is a monopolistically competitive ‘differentiated products’ sector. Lawrence (1991) and Ogawa (1993).3 Consider the world economy as consisting of one developed country 1 This 2A was pointed out by Stiglitz (1970.1 The state of the art in dynamic trade theory is apparently unsatisfactory. How does the integration of developing countries into the world economy affect world trading patterns? It seems to be very important to consider this problem in a dynamic HeckscherOhlin trade model. at least one of the two countries should specialize in one of the two goods and it is very difficult to derive satisfactory results on trade patterns.2 Thus. 3 The static Chamberlin-Heckscher-Ohlin model has been extensively investigated. In other words. However. As an example. and a perfectly competitive ‘consumable capital’ sector. p. we address the question of developing countries’ integration in a dynamic Chamberlin-Heckscher-Ohlin (CHO) model with endogenous time preferences a la Uzawa (1968). under exogenous time preferences.463). many developing countries have opened their economies to international trade. the dynamic Heckscher-Ohlin theorem under the assumption of exogenous time preference that was proved by Chen (1992) holds only if preferences and technologies are strictly identical among countries. while the static Heckscher-Ohlin theorem holds even if preferences and technologies are slightly different among countries. Helpman’s (1981) seminal integration of the monopolistic competition trade model into the two- 3 .1 Introduction In recent decades. This seems to suggest that the traditional focus on exogenous time preferences should be accompanied by a focus on endogenous time preferences. China’s integration into the world economy is one of the most important developments affecting the structure and evolution of the global trading system at the dawn of the 21st century. non-constant time preference rate has been empirically documented through panel data and cross-country data by Hong (1988).

4 . Even if there country by two-factor by two-good Heckscher-Ohlin (HO) framework. saving rates are endogenously determined. In this note.e. Ventura (1997). including Stiglitz (1970). China’s population is 20 percent of the world population. Then China’s decision to join the world trading system represents the opening of trade between Home and Foreign.. it is important to consider the case of the asymmetric size of countries. Thus the role of size differences in factor endowment is downplayed in the analyses. there is a significant size difference between developed and developing countries. most subsequent contributions. 5 The literature on dynamic two-country models originated in Oniki and Uzawa (1965). given that the representative household in each country supplies an equal amount of labor.e. 1993. 4 Atkeson and Kehoe (2000) examine a similar problem using a dynamic Heckscher-Ohlin model composed of a larger number of small open economies. 2004). For example. only intra-industry trade occurs in the steady state irrespective of differences in the number of representative households. The developed country reached a steady state before the developing country (which corresponds to China) started the process of development (i. which was extended and made popular by Helpman and Krugman (1985). Nishimura and Shimomura (2002. We demonstrate that. In the real world. we extend the analysis of Kikuchi and Shimomura (2007) to the case of asymmetric size of two countries (in terms of population). Thus. i. Shimomura (1992.. that both countries are endowed with an equal number of households. assume that households maximize their discounted sum of utility. has led to the widely held belief that HO and Chamberlinian monopolistic competition are complementary in nature. the removal of trade barriers). To our knowledge. Nishimura and Shimomura (2005) discuss other major problems within dynamic HO models. little attention has been given to the relationship between timing of development and the size of developing countries. we call the former Home and the latter Foreign. Chen. While they assume exogenous saving rate in each trading country. Kikuchi and Shimomura (2007) examine a similar problem using a dynamic two-country Chamberlin-Heckscher-Ohlin model. Chen (1992).45 They assume. 2006). however. For simplicity.and one developing country.

Home and Foreign. m∗ ). Foreign) population is m (resp. Labor is measured in efficiency units. Foreign) representative household supplies l (l∗ ) units of efficiency labor. differentiated products (Good 1) and a consumable capital (Good 2). we assume that there is no international credit market. due to catching-up by the developing country. 5 . the Home (resp. This note is organized as follows. Section 2 sets up a dynamic CHO model and Section 3 discusses the existence. Moreover. Following the standard trade theory. and a primary and time-invariant factor of production. The population of each country is assumed to be constant over time. The Home (resp. while there is a competitive domestic credit market in each country. l (labor). Note that Kikuchi and Shimomura (2007)’s case corresponds to m = m∗ = 1. sources of inter-industry trade based on differences in the capital-labor ratio vanish and only intra-industry trade occurs in the steady state. k. The consumable capital can be either consumed as a non-durable good or added to the existing capital stock. 2 The Model Consider a world economy consisting of two countries. Thus.is a larger amount of labor (in terms of population) in the developing country. Foreign) household is endowed with ml and mk (resp. produced using reproducible capital. Section 5 provides concluding remarks. uniqueness and local stability of the steady state. m∗ l∗ and m∗ k ∗ ) units of factors of production. There are two types of commodities. in order to focus on international trade. that differ in their factor endowments. we assume away international factor movements. Each Home (resp. Section 4 derives trade-pattern propositions.

du du2 (3) 0 < θρ ≡ [uρ (u)/ρ(u)] < 1 for any positive u < ∞. s. we assume that the variable discount rate ρ(u) satisfies ρ(0) > 0. Solving the static expenditure minimizing problem. ρ (u) ≡ > 0. and σ is the elasticity of substitution between varieties. σ > 1. ∞ ∞ uXdt 0 = 0 f [U (V. ρ (u) ≡ dρ(u) d2 ρ(u) > 0. we can define the expenditure function as e(P )ψ(u) ≡ (minP V + C2 .t. Quantity index V takes the following Dixit-Stiglitz (1977) form: N σ/(σ−1) (4) V = 0 x(i) (σ−1)/σ di . u = f [U (V. (6) 6 . where V is the quantity index for differentiated products. x(i) is the consumption of the i-th variety of differentiated products.. f (U ) < 0. Following Uzawa (1968).Each consumer maximizes the discounted sum of utility. (5) where N is the total number of differentiated products. (1) (2) ˙ X = −ρ(u)X. C2 is the consumption of the consumable capital. It will be assumed that U is linearly homogeneous in its arguments and f satisfies f (0) = 0. and X ≡ exp{− t 0 ρ(u)dτ } is the discount factor at time t which depends on the past and present level of utility through the function ρ. f (U ) > 0. C2 )] Xdt. C2 )]) .

N ]. ∂e(P )ψ(u)/∂P = V . 7 . and the first order condition. r)φ [x(i)]. Assume that differentiated products are more capital-intensive than the consumable capital. s.t. where y is the output level of each firm. p(i) = p and x(i) = x for ∀ i ∈ [0. r)φ[x(i)]. and ψ(u) is the inverse function of f . Considering the subutility maximization problem: RN max V. yields p(i) [1 − (1/σ)] = c1 (w. 7 We can obtain this relation as follows. Therefore. 0 p(i)x(i)di ≤ I.where the consumable capital serves as the numeraire. we can obtain the following condition from the envelope theorem.7 Furthermore. Assume that each firm in the differentiated products sector has the homothetic total cost function c1 (w. There are significant economies of scale: φ(y)/y is decreasing over the relevant range of output levels y. r)φ (y). that is. r)φ[x(i)] [P (σ−1) Ix(i)(σ−1) ] 1/σ − c1 (w.. while the consumable capital is produced by competitive firms under constant returns technology. ψ (u) > 0. ψ (u) > 0. free entry implies that price equals 6 This assumption is just for simplification and this capital intensity ranking itself does not alter the results of this paper.6 Differentiated products are produced by monopolistically competitive firms under increasing returns technology. we obtain the inverse demand function of i-th variety as follows: p(i) = [P (σ−1) I/x(i)] πi = = 1/σ . the revenue of the i-th firm is given by p(i)x(i) − c1 (w. dπi /dx(i) = 0. P ≡ N 0 p(i) 1−σ di 1/(1−σ) is the price index for differentiated products. e [N 1/(1−σ) p]ψ(u) = N σ/(σ−1) x or N 1/(1−σ) e [N 1/(1−σ) p]ψ(u) = N x. which clearly satisfies ψ(0) = 0. The marginal revenue will be equated to the marginal cost: p [1 − (1/σ)] = c1 (w. r)φ(y). (7) Given that the equilibrium is symmetric.

σ φ(¯) y The constraints on labor and capital within Home are9 c1 (w. See Dixit and Norman (1980. (10) (11) 1 = and we can obtain the factor price functions w(ξp) and r(ξp). the zero-profit conditions can be written as ¯ y ξp = c1 (w. σ dy where θφ ≡ [yφ (y)/φ(y)]. 284–5). which is defined ¯ by8 1− 1 y φ (¯) ¯ y = .average cost: p = [c1 (w. By combining these conditions. To guarantee the existence and uniqueness of y . An example of φ(y) is ln(y + 1). any country’s population size does not affect its relative factor abundance in the static sense. r) and y2 are the unit cost function and the output of the consumable capital. (12) The partial derivative of the national income with respect to the price of differ- 8 This result depends crucially on homotheticity in production. r)y2 y w w c1 (w. c2 (w. r). by defining ξ ≡ y /φ(¯). r)φ(¯)n + c2 (w. Utilizing these factor price functions. r)φ(y)]/y. respectively. 9 As it is clear from these equations. and < 0 for any positive y < ∞. mk. 8 . pp. we assume that φ satisfies ¯ φ (0) < ∞. r)φ(¯)n + c2 (w. one can easily see that all varieties will have the same output level y . r)y2 y r r = = ml. (8) (9) where n is the number of differentiated products produced in Home and c2 (w. r). φ (0) > −∞. Our aim is to check whether population size affects longrun capital accumulation. the national income is shown as r(ξp)mk + w(ξp)ml. Then. lim θφ < 1 − y→∞ dθφ 1 .

−λr. we can obtain another condition for each household: ˙ k = r(ξp)k + w(ξp)l − e[N 1/(1−σ) p]ψ(u). is equal to the aggregate national output of those products: n¯ = ξr (ξp)mk + ξw (ξp)ml. we can obtain ˙ Z = Z[ρ(u) − r(ξp)]. ρ(u)δ − u. our dynamic general equilibrium two- 9 . Associated with this problem is the Hamiltonian H ≡ uX + λ{r(ξp)k + w(ξp)l − e[N 1/(1−σ) p]ψ(u)} − δρ(u)X. (16) (17) (18) Letting Z ≡ λ/X and combining (2) and (17). (14) (13) Each household maximizes (1) subject to both (2) and (14). p. (19) Based on the foregoing argument.entiated products. (15) where λ and δ are the shadow prices of k and X. y From (12). The necessary conditions for optimality are 0 = ˙ λ ˙ δ = = X − λe[N 1/(1−σ) p]ψ (u) − δρ (u)X.

u. δ ∗ .country model is described as ˙ k ˙ k∗ ˙ Z ˙ Z∗ ˙ δ δ˙∗ = = = = = = r(ξp)k + w(ξp)l − e[N 1/(1−σ) p]ψ(u). 10 . Z ∗ . 1 − Z ∗ e[N 1/(1−σ) p]ψ (u∗ ) − δ ∗ ρ (u∗ ). p. N y − ξ[r (ξp)(mk + m∗ k ∗ ) + w (ξp)(ml + m∗ l∗ )]. ¯ (20) (21) (22) (23) (24) (25) (26) (27) (28) (29) 0 = 0 = 0 = 0 = The system determines the equilibrium path of two state variables. k and k ∗ . ¯ e [N 1/(1−σ) p]N 1/(1−σ) [mψ(u) + m∗ ψ(u∗ )] − N y . and N . Z. ρ(u∗ )δ ∗ − u∗ . Z ∗ [ρ(u∗ ) − r(ξp)]. 1 − Ze[N 1/(1−σ) p]ψ (u) − δρ (u). and eight jump variables. Z[ρ(u) − r(ξp)]. ρ(u)δ − u. δ. u∗ . r(ξp)k ∗ + w(ξp)l∗ − e[N 1/(1−σ) p]ψ(u∗ ).

3 The Steady State The steady state is the solution for the system of equations 0 = 0 = 0 = 0 = 0 = 0 = r(ξp)k + w(ξp)l − e[N 1/(1−σ) p]ψ(u). N y − ξ[r (ξp)(mk + m∗ k ∗ ) + w (ξp)(ml + m∗ l∗ )]. are derived once the above system of equations determines p. ¯ Let u(·) be the inverse function of ρ(·). Z ∗ . we see 10 As is clear from (32) and (33). ρ(u∗ ) − r(ξp). ρ(u∗ )δ ∗ − u∗ . k ∗ . (30) (31) (32) (33) (34) (35) (36) (37) (38) (39) 0 = 1 − Ze[N 1/(1−σ) p]ψ (u) − δρ (u).10 Since the shadow prices. if ρ(0) < r(ξp). Z. 0 = 1 − Z ∗ e[N 1/(1−σ) p]ψ (u∗ ) − δ ∗ ρ (u∗ ). ¯ e [N 1/(1−σ) p]N 1/(1−σ) [mψ(u) + m∗ ψ(u∗ )] − N y . then there exists a unique and positive u such that ρ(u) = r(ξp). N . r(ξp)k ∗ + w(ξp)l∗ − e[N 1/(1−σ) p]ψ(u∗ ). u = u∗ holds at the steady state in which both countries are incompletely specialized. ρ(u) − r(ξp). ρ(u)δ − u. δ ∗ . 11 . 0 = 0 = For a given p. δ. k.

12 . (40) (41) (42) (43) N y = ξ[r (ξp)(mk + m∗ k ∗ ) + w (ξp)(ml + m∗ l∗ )].11 ED1 ≡ m{e [N 1/(1−σ) p]N 1/(1−σ) ψ(u) − ξ[r (ξp)k + w (ξp)l]}. there is an incentive for trade due to product differentiation. Proposition 1: Suppose that differences in initial factor endowments between Home and Foreign are not very large and that both the preference of each household and production technologies take the Cobb-Douglas form. ¯ Now. (40). r(ξp)k ∗ + w(ξp)l∗ − e[N 1/(1−σ) p]ψ[u(r(ξp))]. r we will see later. Proof: See Appendix. ED1 (pED1 ) can be interpreted as the Home gross excess demand for differentiated products (the Home excess supply of the consumable capital).that the main system consists of the four equations: 0 = 0 = r(ξp)k + w(ξp)l − e[N 1/(1−σ) p]ψ[u(r(ξp))]. we can restate Kikuchi and Shimomura (2007)’s result. 4 Trade-Pattern Propositions Let us focus on the Home (gross) excess demand for differentiated products in the steady state. Then there exists a unique steady state which is saddle-point stable. Considering the steady-state Home budget constraint. even if ED1 = 0 holds. we obtain k= 11 As eψ − wl . In the steady state both countries produce both goods. Thus. ¯ N y = e [N 1/(1−σ) p]N 1/(1−σ) {mψ[u(r(ξp))] + m∗ ψ[u(r(ξp))]}.

13 . respectively. Still. (46) Since differentiated products are assumed to be capital intensive. θr > 1 > θe > 0 > θw holds.. (45) From these excess demand functions.1 Case A: m < m∗ and l = l∗ If the representative household in each country supplies an equal amount of labor (l = l∗ ). (44) where θe ≡ [pe N 1/(1−σ) /e]. therefore. the exchange of differentiated products for the consumable capital). Following the same procedure. This also implies that there is no incentive for inter-industry trade (i. we can obtain the Foreign excess demand for ∗ differentiated products in the steady state. ED1 : ∗ ED1 = (m∗ /p)[eψ(θe − θr ) + wl∗ (θr − θw )]. θr ≡ (ξpr /r).Substituting this into the Home excess demand and rearranging. there is no net trade (the value of imports equals the value of exports) in the differentiated products sector.e. Since demands have to add up to zero. 4. we obtain the following condition: ED1 = (m/p)[eψ(θe − θr ) + wl(θr − θw )]. the gross excess demands for differentiated products have the same sign in both countries (see (44) and (45)). since each country specializes in a different range of differentiated products. this implies that both of them have to be zero and. we see that ∗ ED1 − ED1 = (1/p)[eψ(θe − θr )(m − m∗ ) + w(θr − θw )(ml − m∗ l∗ )]. an incentive for intra-industry trade remains. We obtain our main proposition on the patterns of intra-industry trade. and θw ≡ (ξpw /w). Let us examine the following two cases.

e. in the steady state. in the steady state. Furthermore. 4. Proposition 1 and Proposition 2 state that Foreign accumulates capital until its capital-labor ratio equals that of Home. only intra-industry trade of differentiated products between countries occurs irrespective of differences in the number of households.. 14 . m < m∗ . This case provides a complementary view for the existence of intra-industry trade between developed and developing countries. And also. each Foreign household is relatively less efficient in providing labor. Our dynamic model reinforces the role of increasing returns and monopolistic competition as determinants of intra-industry trade: the importance of intra-industry trade remains in the dynamic setting while that of inter-industry trade is downplayed. the share of Foreign varieties [n∗ /(n + n∗ )] is equal to the share of Foreign households [m∗ /(m + m∗ )]. its capital stock is relatively low initially). that is. Then.12 Therefore. assume that capital-labor endowment ratio is lower in Foreign 12 This point contrasts sharply with Atkeson and Kehoe (2000). due to catching-up by the developing country. since Foreign has a larger amount of labor.2 Case B: m = m∗ and l > l∗ In this case. in which the developing country accumulates capital until its capital-labor ratio equals the ratio used in the rest of the world to produce the labor-intensive good: the developing country never catches up in this setting. its share of differentiated products in the world market also becomes larger than Home.Proposition 2: Suppose that the representative household in each country supplies an equal amount of labor. We implicitly assume that Foreign (the developing country) started the process of development late (i. Note that. sources of inter-industry trade based on differences in the capital-labor ratio vanish and only intra-industry trade occurs in the steady state. Then.

. We have shown that there exists a unique and saddlepoint-stable steady state that is independent of the initial international distribution of capital. 5 Concluding Remarks Based on the two-sector Chamberlin-Heckscher-Ohlin (CHO) framework. we have shown that. Also. (i) given that the representative household in each country supplies an 13 The case of m < m∗ and ml > m∗ l∗ can be analyzed in a similar way.e. k < k ∗ ). It also highlights the importance of capital accumulation in dynamic trade patterns. the difference in the number of households has been emphasized. 15 . this note has formulated a dynamic model of international trade by introducing the Uzawa (1968) endogenous time preferences.13 Proposition 3: If the number of households is equal. This case highlights that the source of inter-industry trade crucially depends on the efficiency of each household. each Foreign household accumulates more ∗ capital (i.e. the country with lower labor efficiency becomes the net exporter of the capital-intensive good. Again. Making use of the new dynamic trade model. Foreign’s share of differentiated products in the world market becomes larger than Home’s. from (30) and (31). in contrast to Kikuchi and Shimomura (2007).initially.. Then. not on the number of households. in this case. capital intensive products) although it is a labor-rich country at the initial moment. Since we assume that each household in both countries has the same instantaneous discount function. Therefore. u = u∗ holds at the steady state (see (32) and (33)). ED1 − ED1 > 0 holds and Foreign becomes a net exporter of differentiated products (i. In that steady state production in both countries is incompletely specialized (Proposition 1).

Hopefully this analysis provides a useful paradigm for considering how the labor endowment of developing countries (e.g... capital accumulation makes it a major exporter of differentiated products. Uzawa’s endogenous time preferences). (ii) if the number of households is equal. Propositions 2 and 3 highlight the dominance of the developing country in the world economy: although its capital-labor ratio is lower than that of the developed country. 16 . only intra-industry trade occurs in the steady state irrespective of differences in the number of households (Proposition 2).g. the country with higher labor efficiency becomes the net exporter of the labor-intensive good (Proposition 3). Although our result depends critically on several restrictive assumptions (e. it establishes a link between the workhorse model of monopolistic competition and the size of labor endowment.equal amount of labor (l = l∗ ). China) works as a determinant of world trade patterns.

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As we shall show later.1 Existence Let us consider the existence of the steady state. l = l∗ ). one can obtain 0 = e N 1/(1−σ) ψ − ξ(r k + w l). which implies that as long as the international differences in those economic fundamentals are not very large. uniqueness and stability of the steady state with incomplete specialization in the present two-country dynamic general equilibrium model. and initial factor endowments are common between Home and Foreign (m = m∗ = 1. uniqueness and stability are guaranteed. technologies. the existence. and N becomes 0 = r(ξp)k + w(ξp)l − e[N 1/(1−σ) p]ψ[u(r(ξp))]. Uniqueness and Stability of the Steady State with Incomplete Specialization in Both Countries Here. it is clear from (30)-(33) that k = k ∗ holds at the steady state. the system of equations which describes the steady-state k. 20 . Since we assume l = l∗ .6 Appendix: Existence. k= eψ − wl r (50) holds. we shall prove the existence. the determinant of the Jacobian at a symmetrical steady state is not zero. ¯ From (47). Therefore. We shall focus on the symmetric case where preferences. 6. (47) (48) (49) N y = 2ξ[r (ξp)k + w (ξp)l]. ¯ N y = 2e [N 1/(1−σ) p]N 1/(1−σ) ψ[u(r(ξp))]. p. Combining (48) − (49).

p¯ y Substituting (51) into (52). we obtain the first relationship between N and p:14 ˆ N = θw − 1. where θe = [pe N 1/(1−σ) /e]. 0 = θe eψ − [θr (eψ − wl) + θw wl]. one can obtain pN y = 2eψ ¯ or N = pe N 1/(1−σ) e (52) (51) 2θe eψ. respectively. one can obtain N= 2θe Θw(ξp)l. θw < 0. one can obtain 0 = e N 1/(1−σ) ψ − ξ r (eψ − wl) + w l . θr = (ξpr /r). p ˆ (54) Since the differentiated products are capital-intensive. which is greater than 1. multiplying p to (49). r Multiplying p and rewriting this in terms of elasticity. 21 . Rearranging this. 15 It can be easily shown that the right-hand side of (53) goes to ∞ (0) when p goes to 0 (∞).Substituting (50) into this. we obtain: eψ = Θwl. (54) implies that N is decreasing in p: we can depict (53) as Curve AA in Figure 1. Next. that is.15 14 Note that θe (θr and θw ) is constant when the preference (the production technologies) takes the Cobb-Douglas form. where Θ ≡ [(θr − θw )/(θr − θe )]. p¯ y (53) In terms of proportional change. and θw = (ξpw /w).

. let us turn to the other condition. 16 Let us define p as the solution of u(r(ξp)) = 0 ⇐⇒ r(ξp) = ρ(0). which implies that the right-hand side of (55) goes to 0 when p goes to p. (56) implies that N is increasing in p: we can depict (55) as Curve BB in Figure 1. 17 It is apparent from (50) and (51) that the steady-state capital stock is positive.16 Based on the foregoing argument. then we can obtain: N 1/(1−σ) p = β Rearranging this. ˆ N 1 = (σ − 1) 1 − p ˆ θe θw − θr θψ θρ . From (51). On the other hand. Since θψ and θρ are positive.Now. limp→p β(Θw(ξp)l/ψ[u(r(ξp))]) = ∞. the right-hand side of (55) goes to ∞ when p goes to ∞. Then. one can conclude as follows. (55) In terms of proportional change.17 LEMMA A1: There uniquely exists a steady state in which production is incompletely specialized. 22 . e[N 1/(1−σ) p] = Let e−1 ≡ β. (56) where θψ ≡ [uψ (u)/ψ(u)] and θρ = [uρ (u)/ρ(u)]. ψ[u(r(ξp))] Θw(ξp)l ψ[u(r(ξp))] . one can obtain N= p β(Θw(ξp)l/ψ[u(r(ξp))]) σ−1 Θw(ξp)l . we obtain the second relationship between N and p.

p. In the case where the differentiated products are more capital-intensive than the homogeneous good.N A B N B O p p A p Figure 1 6. ξp) = r(ξp)k + w(ξp)l. k > k1 (ξp). r(ξp)]}.     1  pf (k. 139). what remains to be argued concerning uniqueness is to exclude a steady state where at least one country is completely specialized. ¯ 0 < k < k2 (ξp). y ).   f 2 (k. l. and f 1 (k.     F (k. we can express the steady-state Home 18 For the derivation of the monopolistically competitive industry’s implicit production funcsee Helpman and Krugman (1985. 23 . l).18 ¯ ¯ ¯ r w Making use of the above GDP function. k2 (ξp) < k < k1 (ξp). l. y ) ≡ y n(k. l. let us consider the whole GDP function. tion. For this purpose. where ki (ξp) ≡ l{ci [w(ξp). r(ξp)]/ci [w(ξp). f 1.2 The Non-Existence of the Steady State with Complete Specialization in Home and/or Foreign Now. y ). it can be expressed as follows.

then both F (k. Let us consider the Jacobian matrix of the steady state. Thus. LEMMA A2: When the two countries are sufficiently close in terms of factor endowment ratio.and Foreign budget constraints as 0 = 0 = F (k. ξp))]. no country can specialize in producing only one good in the steady state. we can conclude as follows. ξp) hold from properties of the GDP function and vice versa. F (k ∗ . ξp) > F (k ∗ . ξp) − e[N 1/(1−σ) p]ψ[u(Fk (k ∗ . ξp) − e[N 1/(1−σ) p]ψ[u(Fk (k. 6. ξp) and Fk (k. Therefore. ξp))]. ξp) ≤ Fk (k ∗ .   0 0    Zp¯ψ y Z yN ψ ¯ − 2ψ  2(σ−1)ψ   Z yN ψ ¯ Zp¯ψ y  − 2ψ 2(σ−1)ψ   y ¯ −2ξ 2 (r k + w l)   θe − σ−1 + 1 y ¯ 2ψe N 2/(1−σ) p¯ y 2(σ−1) p¯ y 2(σ−1) 0 24 . (57) (58) If k > k ∗ .3 Local Saddlepoint-Stability Let us assume that the two countries are identical. (57) and (58) together imply that there is no steady state such that k = k ∗ holds.  0 0 0  ρ   0 ρ 0 0     0 0 0 0    0 0 0 0    0 0 0  0    0 0 0 0    0 0 −eψ 0     0 0 0 −eψ   −ξr −ξr 0 0   0 0 0 0  0 0 0 0 ρ 0 −ρ 0 0 0 0 0 0 0 0 ρ 0 −ρ 0 0 −eψ 0 Zρ 0 −Zeψ 0 −Zeψ −δρ 0 −eψ 0 Zρ 0 −Zeψ 0 −Zeψ −δρ 0 0 yN ψ ¯ 2ψ 0 yN ψ ¯ 2ψ    0     0 −Zξr    0 −Zξr    0 0  .

First. and the corresponding eigenvalue as x. from Ξ(x) = 0. 0 O4 Let us make the following calculations to obtain the above determinant. the 7th row minus the third row multiplied by eψ /x. Finally. where  I6 0  I≡ . When the first column is subtracted from the second column. we see that Ξ(x) x(ρ−x) 0 Ξ(x) x(ρ−x) pZ y ψ ¯ 2(σ−1)ψ pZ y ψ ¯ 2(σ−1)ψ ¯N − Z y2ψψ + ¯N − Z y2ψψ + eψ Zξr x eψ Zξr x Ω(x) = (ρ − x) x 4 2 0 − ξr eψ ρ−x yN ψ ¯ 2ψ − ξr eψ ρ−x yN ψ ¯ 2ψ y+ ¯ − pξr y ¯ (ρ−x)(σ−1) θe σ−1 −2ξ 2 (r k + w l) 2ψe N 2/(1−σ) +1 y ¯ = (ρ − x) Ξ(x) × 0 −ξr eψ yN ψ ¯ 2ψ 0 Ξ(x) −ξr eψ yN ψ ¯ 2ψ (ρ−x)xpZ y ψ ¯ 2(σ−1)ψ (ρ−x)xpZ y ψ ¯ 2(σ−1)ψ ¯N (ρ − x)x − Z y2ψψ + ¯N (ρ − x)x − Z y2ψψ + eψ Zξr x eψ Zξr x (ρ − x)¯ + y − θe σ−1 pξr y ¯ σ−1 . Next. Then x is  determined by the characteristic equation Ω(x) = |J − xI| = 0. Then. Furthermore. we add the 5th row multiplied by ρ /(ρ − x) to the 7th row. we obtain Ω(x) = (ρ − x)Ξ(x) 1 × −1 0 0 0 Ξ(x) −ξr eψ yN ψ ¯ 2ψ (ρ−x)xpZ y ψ ¯ 2(σ−1)ψ (ρ−x)xpZ y ψ ¯ 2(σ−1)ψ ¯N (ρ − x)x − Z y2ψψ + ¯N (ρ − x)x − Z y2ψψ + eψ Zξr x eψ Zξr x (ρ − x)¯ + y − θe σ−1 pξr y ¯ σ−1 . we have 25 . let us add both the first row multiplied by ξr /(ρ − x) and the second row multiplied by ξr /(ρ − x) to the 9th row. we have x1 = ρ > 0.Denote the above matrix by J. −2(ρ − x)ξ 2 (r k + w l) 2ψe N 2/(1−σ) +1 y ¯ where Ξ(x) ≡ (Zeψ + δρ )x2 − ρ(Zeψ + δρ )x − Zeψ ρ ρ. and the 8th row minus the 4th row multiplied by eψ /x. −2(ρ − x)ξ 2 (r k + w l) 2ψe N 2/(1−σ) +1 y ¯ For Ω(x) = 0. and add the 6th row multiplied by ρ /(ρ − x) to the 8th row.

the term on x3 becomes positive if σ is sufficiently large. r k + w l. Therefore. Next. 26 . since the term. which we assume. 2ψ ψ σ−1 −(Zeψ + δρ )2ψe N 2/(1−σ) − where only the second term is negative. if 19 Indeed. when the 1st row is added to the 2nd row. y According to A(x). it can be shown that the sum of the second term and the third one becomes positive if σ > [(θr r k + θw w l)/(r k + w l)]. since all of the first and second derivatives of ψ and ρ are positive. is positive due to the convexity of the GDP function with respect to p. we obtain Ω(x) = (ρ − x)Ξ(x) 1 × 0 0 Ξ(x) (ρ−x)xpZ y ψ ¯ 2(σ−1)ψ (ρ−x)xpZ y ψ ¯ (σ−1)ψ ¯N (ρ − x)x − Z y2ψψ + ¯N (ρ − x)x − Z yψ ψ + eψ Zξr x 2eψ Zξr x 0 −ξr eψ 0 yN ψ ¯ 2ψ (ρ − x)¯ + y − θe σ−1 pξr y ¯ σ−1 −2(ρ − x)ξ 2 (r k + w l) 2ψe N 2/(1−σ) +1 y ¯ = (ρ − x)Ξ(x)¯ y Ξ(x) × −ξr eψ yN ψ ¯ 2ψ (ρ−x)xpZψ (σ−1)ψ ¯ (ρ − x) − xZ yN ψ + 2eψ Zξr ψ ρ−x+ − θe σ−1 pξr σ−1 −2(ρ − x)ξ 2 (r k + w l) 2ψe N 2/(1−σ) +1 ≡ (ρ − x)Ξ(x)¯A(x). the term on x3 becomes pZψ yN ψ ¯ · 2ξ 2 (r k + w l) 2ψ (σ − 1)ψ y N ψ y N Zψ ¯ ¯ θe + · + (Zeψ + δρ )2ξ 2 (r k + w l) +1 .x2 > 0 > x3 such that Ω(x2 ) = Ω(x3 ) = 0.19 Then.

since the sum of the second term and the third one in the square brackets becomes ξr eψ ρ pξr θe pe N 1/(1−σ) +1 − p r σ−1 e ξr eψ ρ = (θr − θe ) p > 0. the steady state with both countries being incompletely specialized is locally saddlepoint-stable. A(x) = 0 has one negative root x4 . A(0) = 2eψ ρ −Zρ × −ξr eψ yN ψ ¯ 2ψ 0 ρ+ − pξr σ−1 Zξr −ρξ 2 (r k + w l) ψe N 2/(1−σ)  + + (ξr ) eψ 2 2 θe σ−1 θe σ−1 +1 = 2eψ ρZ  θr 2/(1−σ)  −ρ ρ 1 + σ−1 ψe N ×  θr −ξr ρ 1 + σ−1 e N 1/(1−σ) ψ +1 θe σ−1  . k and k ∗ . x3 and x4 . Since there are two state variables. there are two negative characteristic roots. LEMMA A3: When the two countries are sufficiently close.. it follows that the steady state is a saddle point. 1+ θr σ−1 27 . i.A(0) > 0 holds. +1 ρ ρξ (r k + w l) which is positive.e. Therefore.

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