Intra-industry trade
Encyclopedia
Intra-industry trade refers to the exchange of products belonging to the same industry. The term is usually applied to international trade, where the same kinds of goods or services are both imported and exported.
s, foodstuffs and beverages, computers and minerals.
Europe exported 2.6 million motor vehicles in 2002, and imported 2.2 million of them. Japan exported 4.7 million vehicles in 2002 (1 million of which went to Europe, and 2 million to North America), and imported 0.3 million.
According to Nigel Grimwade, "An explanation cannot be found within the framework of classical or neo-classical trade theory. The latter predicts only inter-industry specialisation and trade". However, this is far from the case.
The traditional model of trade were set out by the model of David Ricardo
and the Heckscher–Ohlin model, which tried to explain the occurrence of international trade
. Both models used the idea of comparative advantage
and an explanation of why countries trade. However, many economists have made the point of claiming that these models provide no explanation towards intra-industry trade as under their assumptions countries with identical factor endowments would not trade and produce goods domestically. Hence, over the past three decades as intra-industry trade has developed many economists have looked at other explanations.
One attempt to explain IIT was made by Finger (1975), who thought that occurrence of intra-industry trade was “unremarkable” as existing classifications place goods of heterogeneous factor endowments in a single industry. However, evidence shows that even when industries are disaggregated to extremely fine levels IIT still occurs, so this argument can be ignored.
Another potential explanation is provided by Flavey & Kierzkowski (1987). They produced a model that tried to get rid of the idea that all products are produced under identical technical conditions. Their model showed that on the demand side goods are distinguished by the perceived quality of that good and high quality goods are produced under conditions of high capital intensity. However, this explanation has also been dismissed. It is questioned whether the model applies to IIT at all, as it does not address directly trade between goods of similar factor endowments.
The most comprehensive and widely accepted explanation, at least within economic theory, is that of Paul Krugman
's New Trade Theory. Krugman argues that economies specialise to take advantage of increasing returns, not following differences in regional endowments (as contended by neoclassical
theory). In particular, trade allows countries to specialise in a limited variety of production and thus reap the advantages of increasing returns (ie, economies of scale
), but without reducing the variety of goods available for consumption.
Yet, Donald Davis
believed that both the Heckscher–Ohlin and Ricardian models were still relevant in explaining intra-industry trade. He developed the Heckscher-Ohlin-Ricardo model, which showed that even with constant returns to scale that intra-industry trade could still occur under the traditional setting. The Heckscher-Ohlin-Ricardo model explained that countries of identical factor endowments would still trade due to differences in technology, as this would encourage specialisation and therefore trade, in exactly the same matter that was set out in the Ricardian model.
Types
There are three types of intra-industry trade
Although the theory and measurement of intra-industry trade initially focused on trade in goods, especially industrial products, it has also been observed that there is substantial intra-industry trade in the international trade of services.
For a very simple example, it could be argued that although a BMW
and a Ford
are both motor cars, and although a Budweiser
and a Heineken
are both beers, they are really all different products.
Various indexes of IIT have been created, including the Grubel–Lloyd index, the Balassa index, the Aquino index, the Bergstrand index and the Glesjer index. Research suggests that
"Intra-industry trade has been considered in international trade literature as the explanation of the unexpectedly large expansion of industrial trade among OECD countries, for which it represented more than two-thirds of their total international trade by the beginning of the seventies."
Examples
Examples of this kind of trade include automobileAutomobile
An automobile, autocar, motor car or car is a wheeled motor vehicle used for transporting passengers, which also carries its own engine or motor...
s, foodstuffs and beverages, computers and minerals.
Europe exported 2.6 million motor vehicles in 2002, and imported 2.2 million of them. Japan exported 4.7 million vehicles in 2002 (1 million of which went to Europe, and 2 million to North America), and imported 0.3 million.
Explanation
Why do countries at the same time import and export the products of the same industry, or import and export the same kinds of goods?According to Nigel Grimwade, "An explanation cannot be found within the framework of classical or neo-classical trade theory. The latter predicts only inter-industry specialisation and trade". However, this is far from the case.
The traditional model of trade were set out by the model of David Ricardo
David Ricardo
David Ricardo was an English political economist, often credited with systematising economics, and was one of the most influential of the classical economists, along with Thomas Malthus, Adam Smith, and John Stuart Mill. He was also a member of Parliament, businessman, financier and speculator,...
and the Heckscher–Ohlin model, which tried to explain the occurrence of international trade
International trade
International trade is the exchange of capital, goods, and services across international borders or territories. In most countries, such trade represents a significant share of gross domestic product...
. Both models used the idea of comparative advantage
Comparative advantage
In economics, the law of comparative advantage says that two countries will both gain from trade if, in the absence of trade, they have different relative costs for producing the same goods...
and an explanation of why countries trade. However, many economists have made the point of claiming that these models provide no explanation towards intra-industry trade as under their assumptions countries with identical factor endowments would not trade and produce goods domestically. Hence, over the past three decades as intra-industry trade has developed many economists have looked at other explanations.
One attempt to explain IIT was made by Finger (1975), who thought that occurrence of intra-industry trade was “unremarkable” as existing classifications place goods of heterogeneous factor endowments in a single industry. However, evidence shows that even when industries are disaggregated to extremely fine levels IIT still occurs, so this argument can be ignored.
Another potential explanation is provided by Flavey & Kierzkowski (1987). They produced a model that tried to get rid of the idea that all products are produced under identical technical conditions. Their model showed that on the demand side goods are distinguished by the perceived quality of that good and high quality goods are produced under conditions of high capital intensity. However, this explanation has also been dismissed. It is questioned whether the model applies to IIT at all, as it does not address directly trade between goods of similar factor endowments.
The most comprehensive and widely accepted explanation, at least within economic theory, is that of Paul Krugman
Paul Krugman
Paul Robin Krugman is an American economist, professor of Economics and International Affairs at the Woodrow Wilson School of Public and International Affairs at Princeton University, Centenary Professor at the London School of Economics, and an op-ed columnist for The New York Times...
's New Trade Theory. Krugman argues that economies specialise to take advantage of increasing returns, not following differences in regional endowments (as contended by neoclassical
Neoclassical economics
Neoclassical economics is a term variously used for approaches to economics focusing on the determination of prices, outputs, and income distributions in markets through supply and demand, often mediated through a hypothesized maximization of utility by income-constrained individuals and of profits...
theory). In particular, trade allows countries to specialise in a limited variety of production and thus reap the advantages of increasing returns (ie, economies of scale
Economies of scale
Economies of scale, in microeconomics, refers to the cost advantages that an enterprise obtains due to expansion. There are factors that cause a producer’s average cost per unit to fall as the scale of output is increased. "Economies of scale" is a long run concept and refers to reductions in unit...
), but without reducing the variety of goods available for consumption.
Yet, Donald Davis
Donald Davis
- Sport :* Don Davis , retired NFL linebacker* Donnie Davis , college and arena league American football player; quarterback* Don Davis , American racecar driver...
believed that both the Heckscher–Ohlin and Ricardian models were still relevant in explaining intra-industry trade. He developed the Heckscher-Ohlin-Ricardo model, which showed that even with constant returns to scale that intra-industry trade could still occur under the traditional setting. The Heckscher-Ohlin-Ricardo model explained that countries of identical factor endowments would still trade due to differences in technology, as this would encourage specialisation and therefore trade, in exactly the same matter that was set out in the Ricardian model.
Types
There are three types of intra-industry trade
- Trade in Homogeneous Goods.
- Trade in Horizontally Differentiated Goods.
- Trade in Vertically Differentiated Goods.
Although the theory and measurement of intra-industry trade initially focused on trade in goods, especially industrial products, it has also been observed that there is substantial intra-industry trade in the international trade of services.
Measurement
Intra-industry trade is difficult to measure statistically because regarding products or industries as "the same" is partly a matter of definition and classification.For a very simple example, it could be argued that although a BMW
BMW
Bayerische Motoren Werke AG is a German automobile, motorcycle and engine manufacturing company founded in 1916. It also owns and produces the Mini marque, and is the parent company of Rolls-Royce Motor Cars. BMW produces motorcycles under BMW Motorrad and Husqvarna brands...
and a Ford
Ford Motor Company
Ford Motor Company is an American multinational automaker based in Dearborn, Michigan, a suburb of Detroit. The automaker was founded by Henry Ford and incorporated on June 16, 1903. In addition to the Ford and Lincoln brands, Ford also owns a small stake in Mazda in Japan and Aston Martin in the UK...
are both motor cars, and although a Budweiser
Budweiser (Anheuser-Busch)
Budweiser is a 5.0% abv American-style lager introduced in 1876 by Adolphus Busch and one of the highest selling beers in the United States. It is made with up to 30% rice in addition to hops and barley malt. Budweiser is produced in various breweries located around the world...
and a Heineken
Heineken
Heineken is a Dutch beer which has been brewed by Heineken International since 1873. It is available in a 4.6% alcohol variety in countries such as Ireland. It is the flagship product of the Heineken company and is made of purified water, malted barley, hops, and yeast. In 1886 H...
are both beers, they are really all different products.
Various indexes of IIT have been created, including the Grubel–Lloyd index, the Balassa index, the Aquino index, the Bergstrand index and the Glesjer index. Research suggests that
- IIT is not simply a fiction or artifact produced by statistical classifications and definitions, but very much a reality.
- the share of IIT in total international trade is growing all the time, at about 4–5% a year. Thus, more and more, countries are importing the same kinds of products they are also exporting.
"Intra-industry trade has been considered in international trade literature as the explanation of the unexpectedly large expansion of industrial trade among OECD countries, for which it represented more than two-thirds of their total international trade by the beginning of the seventies."