Trade Liberalization, Employment and Wages: A Critical Approach
Edmund V. K. FitzGerald and Giorgio Perosino
A keystone of modern development strategy in general, and of structural adjustment policy in particular, is trade liberalization. Derived from familiar trade theory, liberalization is intended to achieve productive efficiency and international competitiveness, enabling a more rapid rate of growth than under the previous strategy of protected industrialization. The evident welfare gains to the global economy of free trade are accompanied by increased aggregate income for those developing countries that become integrated to the world market.
However, in standard trade theory, the effects of trade reforms on employment and wages are largely established ex hypothesi, so that economists have focused on the behaviour of labour markets as an explanation of the unemployment and wage dispersion observed empirically. The 'new trade theory' offers a more critical view of the relationship between trade openness and industrialization which is clearly relevant to this problem, but it has not yet been extended formally to derive robust employment and wage results. Moreover, the analysis of the dynamic relationship between trade and domestic labour demand requires an appropriate formulation of the aggregate investment behaviour, which does not usually form part of trade theory.
The object of this paper is to explore this lacuna in the literature, in the hope of contributing--albeit modestly--to our understanding of the consequences of economic reform for income distribution in developing countries. By these we mean those countries outside the main OECD 'core' for whom world markets in goods, services, technology, and capital can be taken as given, and thus for whom trade liberalization implies adjusting the domestic economy to a given set of parameters. Indeed, for the Bretton Woods institutions, openness as a development strategy is a self-evident proposition where any problems are ex hypothesi owing to misguided domestic policy:
It constitutes perhaps the most important opportunity for raising the welfare of both developing and industrial countries in the long term. Globalization comes with liberalization, deregulation, and more mobile and potentially volatile cross-border