Prices vs quantities in the great trade collapse

Prices vs quantities in the great
trade collapse
Mona Haddad Ann Harrison Catherine Hausman
27 August 2010, VOX.EU
The great trade collapse that accompanied the global crisis was historically severe. This column
presents evidence from several countries suggesting that the great trade collapse was more
concentrated along the intensive margin – the reduction in the value of goods already being
traded – providing hope that trade may recover sooner than feared.
The global crisis was accompanied by a severe fall in trade, characterised by Baldwin (2009) as
“sudden, severe, and synchronised… the sharpest in recorded history and the deepest since
WWII.”
Trade can reduce across one of two lines – the intensive margin or the extensive margin. The
speed and durability of the recovery of international trade could depend on which of these two
margins has been the most affected by the crisis.

The intensive margin of trade refers to changes in values of goods already being traded.

The extensive margin refers to changes in the number of goods exported and changes in
the number of destinations to which a country exports goods.
If there are significant fixed costs associated with exporting or importing new products (i.e., the
extensive margin), then identifying the relative size of changes along the extensive and intensive
margins is useful in predicting the speed of the recovery. Evidence from US and French firms
(Peter Schott 2009 and Bricongne et al. 2009, respectively) suggests that the intensive margin
was more affected during this crisis than the extensive margin. These results are consistent with
Bernard et al. (2009), who analyse past recessionary periods. Yet none of these studies have
examined price changes.
Demand shock or supply shock?
One key question is to what extent the collapse in world trade was driven primarily by demandside shocks or supply-side shocks.

Supporters of the demand shock hypothesis argue that the fall in trade has been the
result of a postponement of purchases, especially of durable consumer and investment products.
Eaton et al. (2010) and Levchenko et al. (2010) are among those arguing that the collapse in
trade was primarily the result of demand-side shocks.

Supporters of the supply shock hypothesis suggest that the collapse in trade has been a
consequence of the sudden financial arrest, which froze global credit markets and spilled over on
the specialised financial instruments that finance international trade.

As the trade fell, was it from falling prices, quantities, or both?
When trying to decide whether a particular quantity shock came from shifts in supply curve or in
the demand curve, the price is a useful indicator. We would expect that if the decline in trade
were mostly driven by a negative demand shock, then both prices and quantities would be
negatively affected. However, if supply-side shocks were important (for instance, a reduction in
credit), then we would have expected less downward pressure, and possibly some upward
pressure, on prices.
Our latest research (Haddad et al. 2010) follows this intuition by separating changes in trade
flows into traded prices and quantities. We decompose the fall in international trade into product
entry and exit, price changes, and quantity changes for imports by Brazil, the EU, Indonesia, and
the US. (All effects are defined relative to the same quarter of the previous year, to avoid issues
with seasonally traded goods.)
We find that imports by the US and the EU fell 25% from $4 trillion in 2008 to $3 trillion in 2009.
Imports by Brazil and Indonesia dropped nearly 20% from $135 billion to $109 billion. (Here and
elsewhere, we report figures in real US dollars, deflated by each importer’s monthly Consumer
Price Index.) Figure 1 shows the decomposition of the change in total import value along each
margin, where each margin is shown as a percentage of the total value in 2008.
Figure 1. Change in total import value by margin
As this figure shows, the effects along the intensive margin (quantity and price) dramatically
outweighed the effects along the extensive margin (exiting and new products). The reduction in
quantity was large in all countries. It accounted for 15.9% out of the total 25.2% reduction in the
total value change in the US and EU. The decline in prices accounted for only 5.5%. Net entry,
the sum of exit and entry, was negative but accounted for only a small portion of the total value
change. For Brazil and Indonesia, quantity changes accounted for 18.5% out of the total 18.9%
drop in the value of trade, with product net exit accounting for 1% and a small price increase
partially offsetting these effects.
Product-level variations
The aggregate figures, however, mask enormous differences across different products. The
following figures (see Haddad et al. 2010 for details) show the difference between commodities
and manufactures, where each margin is again shown as a percentage of the change total import
value in 2008. The differences across product classes are striking.

The negative price effect, apparent for the US and EU when aggregating across all
goods, is still evident for commodities but not for manufactures.

With commodity prices falling during the crisis, it is not surprising that the price effect was
large for commodities. It is, however, noteworthy that the price effect was generally contained to
commodities, indeed the price effect for manufactures was positive.
Since we know that demand for manufactures fell during the crisis, the effect on prices can tell us
something about what happened to supply. Where prices rose or where they fell only slightly, it is
plausible that supply shifted in. Thus the evidence on manufactures, contrasted with commodities
and particularly in the case of Brazil and Indonesia, points to a negative supply shock in
manufactures in addition to the negative demand shock. This negative supply shock could be
from fragmentation of the global supply chain or from reductions in trade finance.
Figure 2. Product level variations
We also examine evidence on credit constraints, by adopting the classification scheme of
Bricongne et al. (2009) to separate products according to sectoral dependence on external
finance. We restrict our analysis to manufactures.

For the US, price increases were most significant in sectors which are typically credit
constrained, partially counteracting the large quantity effect.

The EU does not show this effect.

For Brazil, the overall import value for the finance-dependent sectors dropped (by 3%)
but rose for the low-dependence sectors (by 9%).

The overall import value also fell more for finance-dependent sectors (19% as opposed to
6%) in Indonesian imports.
Were any of these trends present before the crisis?
We examine whether these findings are unique to the crisis, or whether they represent the
continuation of historical trends. The following figures show changes in each margin (in billions of
$) for US and Indonesian imports across quarters for 2007 to 2009. Price and quantity changes
are now defined relative to the previous quarter, rather than the same quarter of the previous
year. Hence the magnitudes of these changes do not match the magnitudes given in the other
figures, but they do show the specific timing of the collapse in trade.
As expected, entry and exit do not play much of a role in US imports (before and after the crisis)
but are more important in a developing country like Indonesia where trade relations are thinner
and less established.
The quantity and price effects are not part of broader historical trends, rather they match the
timing of the global economic crisis. Manufacturing imports to the US level off in the third quarter
of 2008, as the crisis is beginning, then plummet in the following two quarters. For this whole
period, the negative quantity effect dominates, and there is a smaller positive price effect for Q4
2008.
Manufacturing imports to Indonesia follow a similar pattern, with a negative quantity effect
beginning in Q4 2008 and an initial positive price effect. Commodity imports to the US also
plummet in Q4 2008, but here the negative price effect dominates. For commodity imports to
Indonesian, both quantity and price effects are negative and begin around Q4 2008.
Figure 3. Changes in each margin by country
Were there differences across income groups?
While the global crisis originated in high income countries, its effects on trade were rapidly
transmitted to low-income countries. It has been hypothesised that the effects of constrained
trade finance could vary by exporter income (Malouche 2009, Berman and Martin 2010) and by
geographic region (Berman and Martin 2010). While high-income countries with well-developed
markets were most affected in the global crisis, on the other hand low-income exporters with lessdeveloped financial markets may be more reliant on trade finance originating in their trading
partners. Countries with different levels of income export different baskets of goods, which
embody different levels of quality and variety.
To analyse how the response in trade volumes changes with the income level of the exporting
country, we classify trading partners in four categories: high-, upper-middle-, lower-middle-, and
low-income, according to the World Bank’s country classification. We also add China and SubSaharan Africa as separate categories. We restrict the sample to manufacturing.

Overall, high and upper-middle-income exports to developed countries were most
affected by the crisis, with falls in the value of their exports reaching 25% to the US and EU.

Low-income countries were able to increase their exports to the US and EU by 7%.

The impact of the crisis on the exports of countries of various income groups to Brazil
and Indonesia was very small.

The most striking result is the large increase in exports of low-income countries to Brazil
and Indonesia by nearly 30% between 2008 and 2009.

China’s exports to the US and the EU dropped by only 8%, in line with other lower-middle
income countries; but increased by 5% in Brazil and Indonesia.
This confirms that south-south trade is becoming increasingly important and was reinforced
during the crisis. Sub-Saharan Africa, however, was not able to take advantage of these SouthSouth trade opportunities as its exports to Brazil and Indonesia dropped 27%.
Figure 4. Imports by Brazil-Indonesia and US-EU from various income country groups,
percentage changes from 2008 to 2009
Conclusions
The causes of the greatest fall in international trade since World War II have yet to be fully
understood, but economists are making progress in understanding the relative magnitudes of the
possible factors. Initial concerns about protection have given way to a general sense that, while
protection did increase somewhat, this does not explain much of the fall in trade (Bown 2009).
Evidence from a number of countries points to a relatively small fall on the extensive margin:
while countries generally exported fewer products to fewer countries, much more value was lost
as products that continued to be traded fell in quantity. The hope is that this will lead to a faster
recovery, so long as ramping quantities back up involves fewer fixed costs than establishing new
export relationships or re-establishing dropped relationships.
Finally, there is some evidence that both the demand side and the supply side mattered. With
falls in real GDP, consumers postponed the purchase of durables and companies postponed the
purchase of investment goods. This led to negative pressure on both the quantity of goods traded
and their prices. Yet we find evidence that supply-side frictions must also have played a role,
particularly in the trade of manufactures, since positive price pressure is apparent during the
crisis. This may have been the result of supply-chain fragmentation; it may also have been the
result of the drying up of credit. Indeed, our research finds that credit-dependent sectors in the
US experienced more upward price pressure than other sectors, and that falls in overall value
were more dramatic for credit-dependent sectors in Brazil and Indonesia than for other sectors.
References
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