The Dutch disease paradox: endowment change and heterogeneous firms

ABSTRACT

This paper presents a model of international trade with heterogeneous firms and endowment differences across countries to explore the adjustment of production and trade patterns to exogenous shocks, such as massive endowment changes. I show that a windfall of resources which can be used for production has a controversial effect on the economy. On the one hand, it leads to a lower productivity level in the economy, which is a known characteristic of the Dutch disease. On the other hand, it increases the relative domestic productivity of the sectors using that resource more intensively, compared to the same industries in other countries, and also raises the exporters share in that sector. Thus, it enhances the Ricardian comparative advantage along the lines of the Heckscher–Ohlin comparative advantage.

KEYWORDS:

• Heckscher-Ohlin
• comparative advantage
• monopolistic competition
• endowment shocks
• resource curse

JEL CLASSIFICATION:

• F11
• F12
• Q33
• O13

Acknowledgments

I thank Theocharis Grigoriadis, Nikolaus Wolf, Léa Marchal, the participants of the Second World Congress of Comparative Economics and two anonymous referees for helpful suggestions and comments.

Disclosure statement

No potential conflict of interest was reported by the author.

Notes

¹ The model is an extension of Bernard, Redding, and Schott (2007), so only crucial equations are presented. Notions of sectors and industries are used interchangeably.

² The notion of firm productivity is broad in this framework. It can refer to a (possibly synthetic) measure of factor productivity (labor, land, etc.), or to other elements lowering the production cost (e.g. business processes) or increasing the (customer-perceived) product quality at equal cost. See Melitz (2003) for discussion.