Book Description

This dissertation in development and trade explores the economic impact of liberalization and globalization. In the past few decades, as emerging economies such as India and China have opened up to world trade and liberalized their economies, these countries have experienced a surprisingly fast increase in GDP per capita. This is testament to the large benefits that can be reaped from globalization and liberalization. Paradoxically however, while globalization and liberalization should be celebrating their success stories, they are met by ever fiercer criticism, as is clear from rising opposition against free trade and an increasing resentment against globalization on both sides of the Atlantic, of which the recent Brexit referendum is but one example. These developments call for a more nuanced understanding of the benefits, but also of the downsides of globalization and liberalization, and this dissertation attempts to contribute to this understanding. The first chapter of this dissertation develops a novel general-equilibrium model of the relationship between competition, financial constraints and misallocation. In the model, steady-state misallocation consists of both variable markups and capital wedges. The variable markups arise from Cournot-type competition, whereas the capital wedges result from the interaction of firm-level productivity volatility with financial constraints. Firms experience random shocks to their productivity and in response to positive productivity shocks they optimally grow their capital stock, subject to financial constraints. Competition plays a dual role in affecting misallocation. On the one hand, both markup levels and markup dispersion tend to fall with competition, which unambiguously improves allocative efficiency in a setting without financial constraints. On the other hand, in a setting with financial constraints, a reduction in markups is associated with slower capital accumulation, as the rate of self-financed investment shrinks. Thus, the positive impact of competition on steady-state misallocation is reduced by the presence of financial constraints. The second chapter then tests the implications of the theoretical model from the first chapter using Indian plant-level panel data. The prediction that the firm-level speed of capital convergence falls with competition is confirmed for the full panel of manufacturing plants in India's Annual Survey of Industries. This effect is particularly pronounced in sectors with higher levels of financial dependence. I also exploit natural variation in the level of competition, arising from the pro-competitive impact of India's 1997 dereservation reform on incumbent plants, and again confirm the qualitative predictions of the model. The third chapter, which is joint work with Andr'es Rodr'iguez-Clare and Moises Yi, develops and applies a framework to analyze the effect of trade on aggregate welfare as well as the distribution of this aggregate effect across different groups of workers. The framework combines a multi-sector gravity model of trade with a Roy-type model of the allocation of workers across sectors. The model predicts unequal distribution of the gains from trade as labor demand increases (decreases) for groups of workers specialized in export-oriented (import-oriented) sectors. The model generalizes the specific-factors intuition to a setting with labor reallocation, while maintaining analytical tractability for any number of groups and countries. We bring the model to the data using China's growth as a trade shock, where we define groups as German regions. First, we show that the model's structure accurately captures the empirical changes in regional income due to the China shock. Second, we structurally estimate the model's parameter that governs the distributional effects of the model. Counterfactual simulations show that this parameter implies sizable distributional implications of trade, with several groups losing from free trade. Finally, we measure the "inequality-adjusted" welfare effect of trade, which captures the full cross-group distribution of welfare changes in one measure. We find that inequality-adjusted gains from trade are larger than the aggregate gains for both countries, as between-group inequality falls with trade relative to autarky. Importantly, the opposite happens for the China shock.