International Economics - Biased Growth

Question

We're under the standard trade model, we have two goods (X and Y), and two countries that engage in free trade. Each country exports the goods in which it has Comparative Advantage and imports the other good.

What are the effects of a (e.g technological) biased growth towards sector X in both countries?

What will change in the volume of trade, on the world price, will countries (individually) be worse-off or better-off?

My doubt is that I don't know if the pattern of trade remais exactly the same because we have the same growth in both countries, or if we'll see other effects due to the fact that the country that exports X is having a growth in its exported sector (so it could supply more)

Answer 1

In this model, we have Country 1 and Country 2. The only goods exchanged in the economy are Good X and Good Y, where X is experiencing technologically-biased growth. We'll assume that initially Country 1 exports Good X and Country 2 exports Good Y. Ideally, we would illustrate this graphically but this format doesn't allow for that.

INITIAL EQUILIBRIUM

1. On the y-axis is the relative price of Good X (P_x/P_y). On the x-axis is the relative quantity of Good X (Q_x/Q_y). The initial equilibrium relative quantity is E₀, The initial equilibrium relative price is (P_x/P_y)⁰.
2. The initial equilibrium [E₀,(P_x/P_y)⁰] occurs at the intersection of the upward-sloping Relative Supply (RS) curve and the downward-sloping Relative Demand (RD) curve.

POST-TECHNOLOGICAL GROWTH EQUILIBRIUM

1. The Good-X biased growth means that Good-X production increases relative to Good-Y. This causes the relative price of Good X to decrease and the relative quantity of Good X to increase.
2. The changes described above are equivalent to a rightward shift in the RS curve.
3. There is then a new equilibrium relative quantity of Good X, E₁.
4. There is then a new equilibrium relative price of Good X, (P_x/P_y)¹.
5. There is then a new equilibrium [E₁,(P_x/P_y)¹] which is down and to the right of the initial equilibrium.

INTERPRETATION

1. The shift in equilibrium lowers the terms of trade for Country 1, which exports Good X. Conversely, Country 2's terms of trade improve.
2. Country 2's welfare improves while Country 1's welfare worsens.