A Meta Modeling Meditation

Paul Krugman over at his blog:

I’m still thinking about the whole “America could only give workers decent living standards when it didn’t face competition” discussion. For one thing, this is an old favorite discussion of mine; the “growth and trade” literature goes back more than 60 years, but there aren’t, I think, many prominent economists working today who know much about that tradition, so I may be the last of the Mohicans or something. For another, this subject is a perfect illustration of the important of actually having a model – I’ll explain in a minute what I mean by that. And one more point: what we learn from this story is that a model may be created to answer one question, or defend a particular position, but if it’s a good model it can be used in multiple settings, and sometimes may even end up supporting a different side in the political debate.

So, on the first point: the origins of this literature go back to the immediate postwar years, when it was common to argue that US technological superiority made it impossible for Europe to compete. Yet basic trade theory says that trade depends on comparative advantage, not absolute advantage – you can gain from trade even if you’re less productive across the board, simply by concentrating on the areas in which your productivity lags least. Did the “dollar shortage” argument make any sense in that framework?

Enter John Hicks, who rephrased it not as a question about gains from trade but as a question about the effects of technological progress in your trading partners. And he laid out a rudimentary model to address that question.