Technology, trade and factor prices paul r. krugman

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Journal of International Economics 50 (2000) 51–71 www.elsevier.nl / locate / econbase

Technology, trade and factor prices
Paul R. Krugman*
Department of Economics, E52 -383 a, Massachusetts Institute of Technology, Cambridge, MA 02139, USA Received 1 June 1998; accepted 3 March 1999

Abstract The view that recent changes in the distribution of income primarily reflect technology ratherthan trade may be the majority opinion, but has been harshly criticized by some trade economists. This paper will argue that the critique in fact misses the point, essentially because the critics undertake the wrong thought experiments. Trade volumes are not irrelevant: if one poses the question correctly, one immediately realizes that small trade volumes are inconsistent with a story that attributeslarge distributional effects to trade. The factor bias of technological change is not immaterial, except in the case where such change takes place in a small open economy (as opposed to one that can affect world prices), and where technical change occurs only in that economy (rather than occurring simultaneously in other economies as well); since the real situation does not meet either criterion,factor bias definitely does matter. Most surprisingly, the much maligned use of a factor content approach to infer the effects of trade on factor prices turns out to be an entirely justified procedure when carefully applied. © 2000 Elsevier Science B.V. All rights reserved.
Keywords: Factor prices; Technology; Trade JEL classification: F11; F16

1. Introduction Over the last decade or so, theStolper–Samuelson theorem, that classic piece of trade theory which asserts that changes in goods prices have magnified effects on
*Tel.: 11-617-253-1551; fax: 11-617-253-4096. E-mail address: krugman@mit.edu (P.R. Krugman) 0022-1996 / 00 / $ – see front matter © 2000 Elsevier Science B.V. All rights reserved. PII: S0022-1996( 99 )00016-1

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factor prices, has moved from midterm exams into the heart of real-world debates over economic policy. The reason is that an expansion of world trade, and especially of manufactures’ exports from low-wage countries, has coincided with a fall in the real wages of less-skilled American workers (and with rising unemployment in other advanced countries). It is natural to suspect alink between trade and declining wages; indeed, many commentators, including some economists, have not hesitated to assert flatly that growing trade is the principal cause of wage decline. It is probably fair to say, however, that the majority view among serious economic analysts is that international trade has had only a limited impact on wages. Skepticism about the effects of trade on wages restsessentially on the observation that despite its growth, trade is still quite small compared with the economies of advanced nations. In particular, imports of manufactured goods from developing countries are still only about 2 percent of the combined GDP of the OECD. The conventional wisdom is that trade flows of this limited magnitude cannot explain the very large changes in relative factor pricesthat have occurred, in particular the roughly 30 percent rise in the wage premium associated with a college education that has taken place in the United States since the 1970s. Low estimates of the impact of trade on wages are often, though not always, based on a methodology that tries to compute the ‘‘factor content’’ of trade, and divides the trade-induced changes in relative ‘‘effective’’factor supplies by some estimated or assumed elasticity of substitution. If trade does not explain the bulk of the change in factor prices, what does? The conventional answer is that technology is the culprit; in particular, that there has been a pervasive skill-using bias in recent technological change, which has shifted demand toward skilled and away from unskilled labor. But while the view that...
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