Trade and Industrial Policy in Supply Chains: Directed Technological Change in Rare Earths

Laura Alfaro, Harald Fadinger, Jan Schymik and Gede Virananda

No 20315, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: Trade and industrial policies restricting critical inputs can inadvertently promote foreign downstream industries via a directed technological response. We provide evidence for this mechanism by examining rare earth elements (REEs) – critical manufacturing inputs with highly concentrated production and low substitutability. We show that China’s REE export restrictions in 2010 induced a surge in global innovation increasing REE input-efficiency and exports in REE-intensive industries. A quantitative trade model with Heckscher-Ohlin-based comparative advantage, directed technological change and input-output linkages rationalizes how input-supply restrictions induce REE-enhancing innovation and expand REE-intensive industries abroad. This directed technological response substantially mitigates foreign welfare losses.

Keywords: Trade policy; Input-output linkages; Global value chains; Industrial policy; Innovation; Directed technological change (search for similar items in EconPapers)
JEL-codes: F13 F14 F42 O33 O47 (search for similar items in EconPapers)
Date: 2025-05
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