Download Growth effects of economic integration

Economic Integration and
Growth
Jan Fidrmuc
Brunel University
Growth Effects of Integration


Does European integration make countries
growth faster?
Allocation effect:


Integration removes barriers to movement of goods
and factors of production  more efficient
allocation of resources  higher output.
Accumulation effect:

Integration  greater economic and political
stability  investment less risky  lower interest
rates (lower risk premium)  more investment 
higher growth and higher output per person.
Solow growth model


Due to Solow (1956) and Swan (1956).
Neoclassical production function with CTRS and
labor-augmenting technology: Y=F(K,AL)





Constant savings rate: s,
Constant depreciation rate: d,
Constant population growth rate: n
Constant rate of technological progress: g
It is convenient to carry out the analysis by
relating all variables to effective labor, AL:
k=K/AL and y=Y/AL=f(k)
Solow diagram
The inflow of new capital and
how it varies with K/AL
Outflow of capital
per AL, constant
depreciation rate
y*
f(k)
B
(d+n+g)k
sf(k)
A
I
o
Assume constant savings rate, s
Do
k0
k*
k
Allocation Effect


Integration allows resources to be allocated and
used more efficiently
Given amount of resources therefore produces
more output:




f(k) curve shifts up and so does sf(k) curve
Equilibrium value of k increases
Output per worker rises
Growth accelerates until the new equilibrium is
reached.
Induced capital formation effect,
i.e. medium-run growth bonus
y’
yc
y*
E
C
f(k)’
f(k)
Allocation effect
(d+n+g)k
B
D
sf(k)’
sf(k)
A
k*
k’
k
Accumulation Effect


Integration makes investment in Europe more
attractive and safer
Risk premium and therefore interest rates fall





Better institutional environment
Increased political and economic stability
Membership in the Eurozone
Savings rate increases: sf(k) curve moves up
(but f(k) curve stays put), k rises
Growth accelerates until the new equilibrium is
reached.
Medium-run growth bonus
D
Y/L’
Y/L*
f(k)
(d+n+g)k
B
C
s’f(k)
sf(k)
A
k*
k’
k
Empirical Estimates




Customs unions raise trade flows among
members by around 50%
Rose (2000): monetary union, on average,
doubles trade among members of union.
Rose and Stanley (2005): meta-analysis,
currency union raises trade by between 30
and 90%
Frankel and Rose (2002): 1% increase in
trade is associated with 1/3% increase in percapita income
Empirical Estimates






Lejour, de Mooij and Nahuis (2001): CGEM model,
effects of enlargement
Gain from Association Agreements (i.e. except
agriculture and food): 2.6% of GDP in the candidate
countries and 0.1% in the EU
Gain from full trade liberalization and customs union:
2.5% in CEECs and 0% in the EU
Removal of informal trade barriers: use gravity
model of trade to estimate tariff equivalent of formal
& informal trade barriers
CEEC exports to EU will rise by 50-65%, EU exports
to CEEC by 51%; overall exports will rise by 30-44%
and 2%, respectively
GDP rises by 5.3% in CEECs and 0.1% in the EU
Empirical Estimates





Baldwin, Francois and Portes (1997, Econ Policy)
Assume enlargement will bring about 10% reduction
in cost of trade
Predict integration effects using CGEM
Conservative scenario: GDP increase by 1.5% in
CEECs (CZ, SK, PL, HU, SI, BG, and RO) and 0.2%
in the EU15
Optimistic scenario, allowing for a risk-premium
effect (CEECs to have the same risk premium as
Portugal): GDP gain +19% in CEECs and +0.2% in
the EU15
Spain and Portugal
Ireland
Greece