• We are looking at real wage convergence. GDP per capita convergence.
• Forces to convergence
o International trade.
o Capital flows
• Explosion of international trade within the Atlantic community in 18701940.
Wasn’t limited because involves NZ and Australia.
• Huge improvement in shipping and railroad technology. Transport technology.
• Two kinds of convergence are going on
o The one we’ve been talking about: real wage convergence. Catching up of
the lower wage countries to the higher wage countries.
o The other one: Price convergence. Not the same thing as real wage
Ex. Price of London for the same grade of meat is many times of
country A. By 1930 it dropped 17 times.
Law of one price. Distance is less and less significant because of
• Many ways the country can respond to influx of relatively cheap produce from the
new world into the old world. One is to accept it, and call it the cost of the wage
goods decline. Or to witness agitation of landowners/farmers to start protecting
• In this period, what started happening now is that people are thinking about
protection as literally protecting the economic benefits of a certain group.
o Ex. Tariffs in Germany after unification and Italy in the 1870s and in
France. Everybody started protecting their own agriculture except England
and W on the part of countries to bargain their way for some of the
protection. If you were willing to reduce your tariffs on wheat from the
US, if you had most favored nation agreements, they would get the same
deal. Even if level of protection goes up, it doesn’t go completely out of
o The level of effective protection v.s. total protection.
Effective: you actually know how much the prices of good are
protected through the tariff. Less than level of total protection.
• The countries that resisted the pressure to start resisting tariffs most are the same
countries that experience within limits the real wage convergence.
• One consideration: Outgrowth of the role of trade.
• Argument from some columnists: They argue that the gold standard along with
international trade played an important role in promoting convergence in this
period. They argue it works through trade.
o What’s the gold standard? An exchange regime in countries that were on
the gold standard made this agreement to fix the value of their currency to
a certain amount of gold and keep that relationship fixed. Means that you
know today and tomorrow what the value of your goods will be when you trade with another country in terms of their currency but you also know
what it means the value in terms of your own currency because your
values are all fixed to gold. Why is this trade promoting: Eliminates level
of uncertainties of trade because limit price fluctuation and educes risk
factor in trade.
o Exchange regime that may be/have been/continuous to be trade
promoting: Ex. The Euro. The idea behind this is the gold standard. It cuts
down transaction cost. Increases exchange among Euro members. It
increases capital flows. Evidence is strong that it works.
• Subcategory of trade: Gold standard. Facilitates trade in countries that subscribe
to the gold standard.
• Major factor of promoting convergence.
• Factor price equalization theorem:
o Thought up by 2 Swedish economists in early part of the 20 century. Will
see in the books.
o Comes out of a very standard notion of international trade: Comparative
advantage. Even if one country is better in everything than the other
country, the better country will be so much better than other countries in
just doing one thing. Specialization.
What’s missing? How do you have a comparative advantage?
What these 2 Swedish economists said: Countries are going to
specialize and have comparative advantages in goods and services
in which they have lots of resources in either labor or natural
resources. They will be specialized in those goods where these
particular inputs are relatively inexpensive and let other countries
specialize in what they have a lot of resources.
o Two countries now specialize in what they have comparative advantage,
driven by natural resource endowment. Take two areas of the world: Old
world and new world. For the sake of argument, we have only land and
labor and both countries now are producing both wheat, which uses a lot
of land but not that much labor. Say Canada (new world) and France (Old
world). Both produce manufacture work which takes a lot of labor. The
OW, which has a lot of labors, will have a comparative advantage in labor
intensive goods. The NW will start specializing in agricultural goods that
are land intensive because it has a lot of land and not labor.
Because there are not a lot of labor in the new world, the real wage
(cost of labor) is greater than the OW. (w/pNW>w/p OW
Manufacture in the OW shifts the labor demand curve because now
you need more labor and the price of labor goes up. Relative
decrease in price of labor.
• In OW, labor gets powerful in 1870. Labor movements just
Land: R NW . POWce of land of NW goes up. Relative decline of
the return to land in the OW. Land owners (landholders) see the
value of their major asset being eroded by trade. o If this story is correct, if trade promotes convergence through factor price
equalization. The more the countries in the game buy into it, the more you
will observe convergence and Vice versa. Countries like Spain and France
who resist the pressures experience much less factor price convergence
than a country like England. In general, this is exactly correct. Obvious
reason why they resist. The more your economy resist the structural
change pressures, you will not be as potentially well off as they could be
because you resist the opportunity to international trade. Convergence is
all structural change. Data is compelling.
o How much does this trade induced convergence matter?
o Denmark: major agriculture player before all of this trade and they remain
a main agriculture after all of this trade. You don’t observe Denmark
switch out of agriculture. Complicated. Not the simple case in this factor
price equalization. What Denmark does: It starts to specialize in high
quality agricultural products for example meat, milk, cheeses. That doesn’t
mean they can’t do it in the NW. But the real return to specialization in the
NW is taking this immense quantity of land and turning aside the planting
your grains, not getting into details of high quality. Denmark can benefit
from the advantages in transportation to get inputs at a low price like from
the NW. Denmark experiences positive impact.
• An article came out: They looked exactly at this argument of Williamson. Not that
it’s wrong but remember how the argument started. The argument is essentially
innovations reduces the trade cost due to distance. Major impediment to
international trade. How much does it reduce trade cost in international trade in
this period? Trade cost: the cost of moving goods from point A to point B
(distance factors). Other trade costs: tariffs (it somehow keeps the price
differential higher than it would otherwise be). O Williamson didn’t put it in a big
enough context. They do it in a ‘partial’ equilibrium. They say ‘let’s see what we
come up with’ by going to a