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C H A P T E R 3 International Trade Theory and the Centrally Planned Economies In that time he learned that the world is all of one piece He learned that the world is like an enormous spider web and if you touch it, however lightly, at any point, the vibration ripples to the remotest perimeter and the drowsy spider feels the tingle and is drowsy no more but springs out to fling the gossamer coils about you who have touched the web and then inject the black, numbing poison under your hide. It does not matter whether or not you meant to brush the web of things. —Robert Penn Warren, All the King's Men The ultimate goal of the present work is not primarily to analyze the international trade of socialism, but rather to use trade data to understand the effect of economic system on economic behavior. The central assumption underlying this methodology is that the world is a seamless web, with trade patterns inevitably reflecting the internal character of economies. Those who doubt the reasonableness of this assumption for Eastern Europe should consider whether they would predict that the Soviet Union exports as many videocassette recorders as barrels of oil. The question is not whether trade depends on the character of the domestic economy, but how. Theoretical ideas on the nature of that dependence are the subject of the present chapter. I first examine the relationship between internal characteristics and trade patterns in the most venerated trade model, the Heckscher-Ohlin model. Consideration is given to the assumptions that make that model a description of the centrally planned economies. If these assumptions approximate reality, then the HO model can provide the theoretical structure for the data analysis of later chapters. Discussion of the reasonableness of these assumptions for centrally planned economies is reserved for the end of this chapter, after an examination of the institutions relevant to CPE trade. Section 3.2 analyzes a recent departure in neoclassical trade theory—a model examining the effect of product differentiation and economies of scale on trade patterns (henceforth, the PE model). Although similar in methodology , the HO and PE models produce markedly different conclusions, in particular on the structure of the equations used to analyze trade patterns. Trade Theory and CPEs 45 Moreover, below the surface of the two models' assumptions lies a crucial difference in emphasis. For the HO model to describe reality, it is not necessary that nations have any fundamental ability to innovate. In contrast, the PE model assumes that each nation is able to generate a unique set of products. This difference between the two models leads to a crucial element in the interpretation of the empirical results to be presented in later chapters. The literature on the centrally planned economies has tended to emphasize institutional description and to downplay neoclassical trade models. Sections 3.4-3.9 discuss the predictions on the pattern of trade that can be extracted from that literature. To examine whether those predictions are based on sound logic, the discussion is given a simple structure that focuses on the underlying assumptions and on the variables considered to be the crucial exogenous factors in the analysis. Section 3.4 explains this structure, which distinguishes four main areas in which existing trade theories make assumptions: endowments , preferences, technology, and the decision-making environment. Economic system can influence elements in all four areas, as shown in Section 3.5, which provides an overview of the institutions of the CPEs. For example, specifying the nature of incentives can help one characterize the environment facing decision-makers, or acknowledging the effect of bureaucratic organization on the size of enterprises can aid in describing the nature of technology. In each of the four areas, I use information about the differences between CPEs and market economies (MEs) to formulate hypotheses on the nature of CPE trade. These hypotheses serve as a focus for the empirical results of later chapters. They center especially on the comparisons of capitalism and socialism that are particularly constructive if one wants to distinguish between the neoclassical and Schumpeterian views outlined in Sections 1.3-1.4. Section 3.10 argues that theoretical considerations alone are not sufficient to conclude that neoclassical models of trade are irrelevant to centrally planned economies. The argument draws on two elements. First, I point out that all economic models are idealizations of reality. One cannot deny the applicability of neoclassical models to CPEs merely by noting...


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