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A Trapped Factors Model of Innovation

Nicholas Bloom (), Paul Romer, Stephen Terry and John van Reenen ()

CEP Discussion Papers from Centre for Economic Performance, LSE

Abstract: When will reducing trade barriers against a low wage country cause innovation to increase in high wage regions like the US or EU? We develop a model where factors of production have costs of adjustment and so are partially "trapped" in producing old goods. Trade liberalization with a low wage country reduces the profitability of old goods and so the opportunity cost of innovating falls. Interestingly, the "China shock" is more likely to induce innovation than liberalization with high wage countries. These implications are consistent with a range of recent empirical evidence on the impact of China and offers a new mechanism for positive welfare effects of trade liberalization over and above the standard benefits of specialization and market expansion. Calibrations of our model to the recent experience of the US with China suggests that there will be faster long-run growth through innovation in the US and that, in the short run, this is magnified by the trapped factor effect.

Keywords: Trade; innovation; China (search for similar items in EconPapers)
JEL-codes: O33 F16 O38 J33 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ino and nep-knm
Date: 2013-02
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Related works:
Journal Article: A Trapped-Factors Model of Innovation (2013) Downloads
Working Paper: A trapped factors model of innovation (2013) Downloads
Working Paper: A trapped-factors model of innovation (2013) Downloads
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