International Trade and Economics of Less: Productivity and Trade

Productivity and Trade The comparative advantage enjoyed by producers of particular goods in a nation can be eroded over time when productivity growth lags behind that of competing foreign producers. Throughout the 1970s, large U.S. steel firms were operating in aging plants. Productivity growth, therefore, lagged behind that of Japanese producers whose plants were more modern. As a result, many large U.S. steel producers failed to compete successfully with Japanese firms in international and domestic markets. Because productivity in the Japanese steel industry increased faster than it did in the U.S. steel industry, the opportunity cost of each ton of U.S. steel rose relative to the opportunity cost of Japanese steel. U.S. steel was less attractive in international markets because the Japanese were able to sell steel at prices lower than U.S. producers while still covering their opportunity costs. How to Lose Comparative Advantage in International Markets To examine the trade process, it's useful to trace out the implications of lagging productivity growth. We can use the analysis of comparative advantage to show how lagging productivity can affect the competitiveness of the U.S. steel industry compared to the Japanese industry in international markets. The graphs in Box 12 show hypothetical production possibilities curves for food and steel in the United States and Japan, assuming constant opportunity costs. The initial production possibilities curve for the United States has a slope of - 1, indicating that the opportunity cost of each ton of steel is 1 ton of food. The initial Japanese production possibilities curve has a slope of -2. The opportunity cost of a ton of steel is 2 tons of food. The graphs show the initial opportunity cost curves for steel in each of the two countries. Initially the United States enjoys a comparative advantage in steel production because its opportunity cost of each ton of steel is one half that in Japan when measured in terms of food forgone. Suppose, however, that, over time in both nations, there is no productivity growth in food production but that productivity increases in the steel industry. Also suppose that Japanese firms manage to achieve increases in steel productivity growth at a faster rate than do U.S. firms. The production possibilities curve will swivel outward and become flatter as productivity growth in steel increases. In Box 12 productivity growth shifts the U.S. production possibilities curve until it intersects the horizontal axis at 12 tons per day. However, the productivity growth is much more pronounced in Japan, and its curve now intersects the horizontal axis at 10 tons per day instead of 2½ tons. Notice that the Japanese production possibilities curve is now flatter than the U.S. production possibilities curve. The opportunity cost of a ton of steel in Japan has fallen below that in the United States. The graphs in Box 13 show that Japan's amazing growth in productivity has reduced the opportunity cost of a ton of steel in that country from 2 tons of food per day to only ½ ton. Meanwhile, in the United States the low growth of productivity in the steel industry has merely reduced the opportunity cost of a ton of steel from 1 ton of food per day to 0.83 ton. As a result of lagging productivity growth, the United States, in this example, has lost its comparative advantage in steel production. This example points out an important lesson: An industry that lags behind the times in technology or equipment will lose its comparative advantage in international markets.