Introduction The Model Conclusion Trading Tasks: A Simple Theory of Offshoring Gene M. Grossman and Esteban Rossi-Hansberg Princeton University June 26, 2014 Grossman and Rossi-Hansberg (Princeton University) A Simple Theory of Offshoring June 26, 2014 1 / 13 Introduction The Model Conclusion Introduction The nature of international trade has changed For centuries, trade largely entailed an exchange of complete goods Now, trade increasingly involves bits of value being added in many different locations: Trade in tasks! Boom in “offshoring” of both manufacturing tasks and other business functions Need for a new paradigm, one that puts task trade at center stage The paper develops a simple and tractable model of offshoring that features such trade in tasks Grossman and Rossi-Hansberg (Princeton University) A Simple Theory of Offshoring June 26, 2014 2 / 13 Introduction The Model Conclusion Towards a New Paradigm A different conceptualization of the production process Production of every good requires the performance of a continuum of tasks by each of the factors of production Tasks might be performed in different locations Firms are motivated to offshore tasks by factor-cost savings, but trading tasks is costly A model with two industries, perfect competition, and two factors of production The authors study how decreases in offshoring costs affect the wages of different types of labor They nd that low-skilled workers may bene t from the production of low-skilled tasks abroad Grossman and Rossi-Hansberg (Princeton University) A Simple Theory of Offshoring June 26, 2014 3 / 13 Introduction The Model Conclusion The Model Model allows trade in tasks, as well as trade in goods Production involves a continuum of L tasks and continuum of H tasks Industries differ in factor intensity, as usual Normalize measure of tasks of each type to one Cost of offshoring task i is given by βt (i ) Order tasks so t 0 (i ) 1 0 and assume t (i ) is continuously differentiable For the moment only L-tasks can be offshore and same t (i ) schedule in each industry Grossman and Rossi-Hansberg (Princeton University) A Simple Theory of Offshoring June 26, 2014 4 / 13 Introduction The Model Conclusion Firm's Problem Consider production in sector j 2 fX , Y g Assume rms, or industry, produces using a Constant Returns to Scale technology Firms maximize pro ts max fpj Yj cj Yj g Yj ,Ij where cj = waLj (1 Ij ) + w aLj Firm will offshore tasks [0, Ij ] where Z Ij 0 βt (i )di + saHj + ... w = β t ( Ij ) w , and if the rm produces a positive amount pj = c j Grossman and Rossi-Hansberg (Princeton University) A Simple Theory of Offshoring June 26, 2014 5 / 13 Introduction The Model Conclusion Marginal Costs Cost of producing good j using home technology are given by cj = waLj (1 = waLj (1 I ) + w aLj I ) + waLj = waLj Ω(I ) + saHj where Ω (I ) = 1 I+ RI 0 Z I RI t (i )di t (I ) 0 0 βt (i )di + saHj t (i )di t (I ) + saHj with Ω0 (I ) 0 So possibility of offshoring affects costs exactly as labor-augmenting technological change Grossman and Rossi-Hansberg (Princeton University) A Simple Theory of Offshoring June 26, 2014 6 / 13 Introduction The Model Conclusion Equilibrium Assume that both industries are active, then price is equal to unit cost (good X is numeraire and skill intensive) 1 = w ΩaLx + saHx p = w ΩaLy + saHy Factor market clearing implies aLx x (1 I ) + aLy y (1 I) = L () aLx x + aLy y = aHx x + aHy y = L 1 I H. These 4 equations determine x , y , w Ω, s as functions of p, I and L, H . Grossman and Rossi-Hansberg (Princeton University) A Simple Theory of Offshoring June 26, 2014 7 / 13 Introduction The Model Conclusion Small Heckscher-Ohlin Economy Consider a small economy (p and w xed) with two factors, L and H, and two goods. Then 1 = w ΩaLx (w Ω/s ) + saHx (w Ω/s ) p = w ΩaLy (w Ω/s ) + saHy (w Ω/s ) which implies that w Ω and s depend only on p. That is, ŵ = Ω̂ and ŝ = 0 Therefore, if β goes down, then I goes up and, thereby, Ω goes down, implying that ŵ Grossman and Rossi-Hansberg (Princeton University) 0. A Simple Theory of Offshoring June 26, 2014 8 / 13 Introduction The Model Conclusion Large Heckscher-Ohlin Economy Need a reason for differences in factor prices across countries Assume foreign country has inferior technology so that offshoring ows in one direction Let A measure Hicks-neutral technological inferiority in both industries, then with incomplete specialization A aLx w + A aHx s = 1 A aLy w + A aHy s = p Incomplete specialization implies that in equilibrium there is adjusted Factor Price Equalization: Grossman and Rossi-Hansberg (Princeton University) wΩ = w A s = s A A Simple Theory of Offshoring June 26, 2014 9 / 13 Introduction The Model Conclusion Large Heckscher-Ohlin Economy This implies that both countries have similar aFj , so factor clearing conditions are given by A aLx x + A aLy y + β Z I 0 t (i )di (aLx x + aLy y ) = L A aHx x + A aHy y = H or aLx x + aLy y = aHx x + aHy y = Grossman and Rossi-Hansberg (Princeton University) L A H A βL A (1 I ) A Simple Theory of Offshoring Z I 0 t (i )di June 26, 2014 10 / 13 Introduction The Model Conclusion Large Heckscher-Ohlin Economy After some algebra x +x = y +y = where Ma = aHx aLy aLy H + H A + L A aLx H + H A aHy L Ω Ma aHx L Ω + L A Ma aLx aHy > 0. Goods market equilibrium: y +y x +x = D (p ) where D (p ) is the world relative demand: D 0 (p ) < 0. y If β # =) I " and Ω #. This in turn implies that yx + +x " and p falls: p̂ < 0. Grossman and Rossi-Hansberg (Princeton University) A Simple Theory of Offshoring June 26, 2014 11 / 13 Introduction The Model Conclusion Large Heckscher-Ohlin Economy Hence, p # implies Relative Price Effect favors H and harms L Overall: ŵ = Ω̂ + µ1 p̂ and ŝ = µ2 p̂ H must gain, L may gain or lose Possible Pareto gains for home country if productivity effect large enough Note complete analogy with labor-augmenting technological progress in home country Grossman and Rossi-Hansberg (Princeton University) A Simple Theory of Offshoring June 26, 2014 12 / 13 Introduction The Model Conclusion Conclusion In the past: Countries produced mostly complete products that they consumed and traded with other nations Today: Drastic reductions in transport and communication costs have facilitated direct trade in tasks Traditional bene ts from worker specialization plus gains generated when tasks are performed at the lowest cost location Proposed a new paradigm where task trade takes center stage and: Offshoring of a particular factor's tasks is equivalent to factor-augmenting technological progress Offshoring may lead to Pareto gains for source country Grossman and Rossi-Hansberg (Princeton University) A Simple Theory of Offshoring June 26, 2014 13 / 13
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