What is the Stolper-Samuelson theory? How does this provide a warning to wealthy nations about trade with developing nations? Analyze the current view of this theory and provide evidence in support or as a critique.
Introduction
Contemporary liberal economies, which are based on notions and principles of capitalism (free-market economy), consider the trade a major component of the economic strategy. In fact, it is considered an instrument to realize various political-economic objectives. Therefore, when we study strategies of the modern economy, we learn that there is an extraordinary emphasis on free-trade.
Neoclassical economists assert that all trading countries benefit from trade when it is based on comparative advantage (Ricardian principle about the trade). This assertion motivated many countries to engage in tariff-free trade, which has affected not only the trading countries but also the world economy. The consequences, of the trade between countries (especially among developing and developed countries), are quite different from the neo-classical predictions, but they are quite by Stolper-Samuelson Theory.
Stolper-Samuelson Theorem (SS Model)
As per the theory of Stolper and Samuelsson, as the prices of output change, so do the prices of factors. The Stolper-Samuelson, which is the further development of Heckscher–Ohlin model, also asserts that return on a factor changes (increase or decrease), as the price of output changes. Another assumption, of this theory, is that during the international trade, the scarce resource will be employed less (gradually), as the returns on the scarce resource will decline. It implies that a labor-intensive economy will emphasize on its labor force; whereas a capital-intensive economy will rely on capital/technology for production of goods that to be traded in international markets. Therefore, as the trade would increase, it would become difficult for trading economies to reallocate resources (Stolper & Samuelson, 1941).
Stolper-Samuelson Model, which works within the framework of Heckscher–Ohlin Model, not only explains international trade, but also predicts changes in wages (return on factors) and income. In fact, more dynamic versions of Stolper-Samuelson Model predict are robust, and they claim to predict changes in wages accurately, wealth, and income between the trading countries.
Size of Global Trade
The volume of global trade grew evidently in last three decades. There are numerous factors, studies reveal, that have added to the swelling trade size. One of the factors/notions/assertions is that tariff-free trade, which is based on comparative advantage, benefits all trading countries. For instance, because of trade, prices of commodities decrease consumer surplus increases, innovation occurs, and size of consumption increases. However, there is little evidence that because of trade all these targets are achieved. Nevertheless, these perceived benefits of trade encouraged countries to open up their economy and allow international goods and services to penetrate local markets.
The pattern of Trade and Its Outcomes (S-S Theory’s prediction and Warnings)
From the study of the pattern of international trade, between similar and different economies, reveals that developing countries have benefited more from trade than developed countries. Statistics, which are self-explanatory, reveal that most of the developed countries, which are trading with developing countries, are running a trade deficit against developing countries. For example, the trade deficit of the United Kingdom against China was £25.4 billion in the year 2016. Similarly, the United States trade deficit with China and Mexico are $385 billion (2016) and $64.1 (2017) billion respectively (USTR, 2018).
In case of the United States and United Kingdom (countries with similar economic structure), both countries claim to have a trade surplus (almost balanced) (Romei, 2017).
The trade deficit is affecting developed or wealthy countries adversely, as it not only causes changes in nominal wages, but it is also causing changes in consumption and size of industrialization. For instance, in the United States, trade imbalance or deficit has affected employment, wages, and consumption. As goods imported from developing countries are inexpensive (low cost of production because of abundant resource/labor); therefore, it is becoming increasingly difficult for local products (produced by industries of developed economy) to compete causing the flight of capital (and technology associated with it) to developing countries from developing countries, where it could be produced to sell in lucrative markets (Verhoogen, 2008).
U.S. trade deficit with China Graph
U.S. trade deficit with China Graph Adapted from Perlman, J. (2016, February 10). Statement by Ohio AFL-CIO President Tim Burga On New Federal Trade Deficit Data. Retrieved from http://ohioaflcio.com/statement-by-ohio-afl-cio-president-tim-burga-on-new-federal-trade-deficit-data/
Analysis by using Stolper and Samuelsson Theorem/Model’s Projections
Stolper-Samuelsson Theorem/Model asserts that during International Trade, a country employs the most abundant resource; return on it changes, as the output price changes. Also, a country that employs abundant resources benefits most. It is obvious from the information regarding trade balance. Therefore, we can say that Stolper-Samuelsson Theorem accurately predicts the pattern of trade, and it correctly identifies that major beneficiary of trade between two different economies, i.e., trade between developed and developing economies (Galiani & Sanguinetti, 2003).
Another prediction, of Stolper-Samuelsson Theorem/Model, is that the price of the most abundant factor reduces gradually. In the case of developing countries, it is a wage, which must decrease as per projection (Michael, 2016). However, we learn that after trade liberalization, in some developing countries, wages of both skilled and unskilled laborers have increased. For instance, in at least seven Latin American countries, wages swelled after trade liberalization, which contradicts the predictions of Stolper-Samuelsson Theorem/Model.
Opinion
Stolper-Samuelsson Theorem/Model has evolved with time to predict more accurately the outcomes of trade, because of the changes in commodity prices in international markets causing a change in factor prices. It accurately predicts the pattern of trade between countries and can identify the major beneficiary of trade; however, its predictions about real wages and real returns on a factor are faulty.
Conclusion
In the end, it can be concluded that to an extent we can understand current international trade and its pattern from Stolper-Samuelsson Theorem/Model; however, it is quite difficult to predict changes in real wages and return on factor because of changes in output prices. Also, the original model is quite simple with only two broad sectors, which also reduces its capacity to predict. However, it’s a subtle warning regarding possible trade deficits with developing countries is relevant.
References
Galiani, S., & Sanguinetti, P. (2003). The impact of trade liberalization on wage inequality: evidence from Argentina. Journal of Development Economics, 172, 497 – 513.
Michael, A. M. (2016). Evaluating Stolper-Samuelson: Trade Liberalization & Wage Inequality in India. The University of San Francisco USF Scholarship, 1-29.
Perlman, J. (2016, February 10). Statement by Ohio AFL-CIO President Tim Burga On New Federal Trade Deficit Data. Retrieved from http://ohioaflcio.com/statement-by-ohio-afl-cio-president-tim-burga-on-new-federal-trade-deficit-data/
Romei, V. (2017, September 24). UK and US report trade surplus with each other. Retrieved from Financial Times: https://www.ft.com/content/82ebed88-9ede-11e7-8cd4-932067fbf946
Stolper, W. F., & Samuelson, P. A. (1941). Protection and Real Wages. The Review of Economic Studies, 9(1), 58-73.
USTR. (2018, January 1). The People’s Republic of China: U.S.-China Trade Facts. Retrieved from https://ustr.gov/countries-regions/china-mongolia-taiwan/peoples-republic-china#
Verhoogen, E. A. (2008). Trade, Quality Upgrading, And Wage Inequality In The Mexican Manufacturing Sector. The Quarterly Journal of Economics, 123(2), 489–530.
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