BackWhat happens when people migrate?
A more efficientand a more justworld would involve breaking down, rather than erecting, barriers to the movement of people
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The recent focus on the refugee crisis in Europe has once again cast the spotlight on the large-scale migration of people. Yet, this current migration is but one of many instances of large-scale labour movement in human history. What does economics—and the economics of international trade, in particular—have to say on the subject? In particular, is large-scale labour migration good or bad for global economic welfare?
As a matter of basic economics, the movement of labour across national borders may be understood, analytically, as one example of the movement of factors of production—rather than commodities—which would also include capital and land.
Within this trinity of factors of production—labour, capital and land—the third, land, is typically, and in accordance with common sense, assumed immobile by economists, but natural resources that are products of the land are indeed mobile across borders—although these are typically treated as commodities in themselves. Thus, the economics analysis of factor mobility boils down to a discussion of the mobility of labour and capital.
While capital and labour mobility raise distinct analytical questions—since, for instance, people vote and have preferences, while machines don’t, at least not yet—surprisingly much can be gleaned by considering them, in the first instance, generically as factors of production as distinct from those goods and services that are, in turn, produced using the services of factors of production.
While, to the layperson, the movement of people or capital—whether physical capital, in the form of machinery, or financial capital, as in the form of investments—may appear very different from the movement of goods and services, to economists of international trade, they are, in fact, two sides of the same coin.
The workhorse model of international trade theory, known variously as the Heckscher-Ohlin-Samuelson model or “factor proportions model", posits that the pattern of international trade is principally a function of the relative endowments of factors of production across national borders.
Thus, a capital-abundant economy—one endowed with relatively more capital than labour—will tend to export capital-intensive goods and services—those that require relatively more capital than labour to produce. Likewise, a labour-abundant economy will tend to export labour-intensive goods.
What this implies for the pattern of global trade is that capital-rich economies—mainly advanced Western economies such as the US—will export high-tech manufactured goods and services, while they will import low-tech manufactured goods, agricultural goods and other commodities that are produced by labour-rich economies such as China, India and other developing and emerging economies.
While not perfect, this textbook trade model does a good job in capturing the broad contours of trade between advanced and developing economies. Economist Edward Leamer provides a good overview of the model’s successes and failures, in theory and in practice, in a 1995 research paper.
One of the most powerful implications of this model was drawn out by Nobel-winning economist Paul Samuelson, the third in the trio of economists (the others being Eli Heckscher and Bertil Ohlin, the latter of whom also won the Nobel Prize) who give the theory its name.
In a now legendary pair of research papers published in 1948 and 1949 (summarized by the author in a survey paper in 1967), Samuelson demonstrated that in a world of free trade in goods, but no mobility of factors permitted, the equalization of goods prices through trade would necessarily imply that the rewards to factors of production would also become equalized.
The upshot would be that free trade in goods would be sufficient to equalize the returns to capital and labour between advanced and developing economies—no factor movements would be required.
Samuelson’s result was so startling at the time that many economists refused to believe that it was correct! Yet, the intuition is transparent: to the extent that goods “embody" the factors of production that are used to produce them, when countries trade in goods, they, indirectly, are trading in factors of production. Free trade in goods and free trade in factors are perfect substitutes in this model—if there is free trade in goods, trade in factors of production will be redundant.
Samuelson’s theoretical finding was given a new twist by another Nobel-winning economist, Robert Mundell, who showed in a classic 1957 research paper that the result could be turned on its head. In other words, if there was no trade in goods, trade in factors of production—labour and/or capital—would ensure that the world patterns of production and consumption would match exactly those that would prevail under free trade. Put another way, if as Samuelson showed trade in goods may substitute for trade in factors, Mundell showed that the reverse is necessarily also true within the identical analytical framework.
One must hasten to add that the sharp results that Samuelson and Mundell obtained were in the context of a very special theoretical model, which requires strong assumptions that are unlikely to be true in the real world—such as that trading nations share identical technologies.
However, even if these stringent assumptions are not met, the general presumption remains that trade in goods and trade in factors are substitutes to some extent—even in the absence of full equalization of goods or factor prices. The other crucial presumption that remains intact is that, to the extent that free trade in goods is beneficial for all countries that engage in trade, free trade in factors—both labour and capital—is also likely to be mutually gainful.
The importance of this last idea cannot be overstated. While the real world never matches the perfection of a theoretical model, the basic idea that, other things being equal, letting goods, services, capital—and people—move freely and without hindrance is likely to be good for everyone—sending countries, receiving countries and the migrants themselves—remains a key and robust insight of international trade.
As the doctrine of comparative advantage and the gains from trade teaches us, free trade, for the most part, is good; and that extends to the free movement of people—despite the added political freight that the latter form of movement often carries.
Just as it is gainful for all nations if goods move from where they are more cheaply produced to where they are more costly, equally, it is gainful for all if people move from where wages are low to where they are high—the incentive to earn a higher wage being the key economic driver of labour migration, much as the incentive to earn a higher rate of return is the key economic driver for capital movement.
Having said as much, it must be acknowledged that the subject of labour migration—as distinct from the generic movement of factors of production—has spawned a vast literature in the social sciences, which considerably complicates and enriches the simple rational choice framework built into the canonical trade models.
In the real world, the decision to migrate involves a complex psychology and sociology, quite apart from the simple cost-benefit trade-off implied by comparing wages at home with those one could earn abroad and weighing that difference against the cost of moving.
A compendious 2008 survey paper ably reviews the vast migration literature that cuts across fields as diverse as economics, sociology and development studies.
The bottom-line finding in this large literature is that while a net economic gain from migration is necessary, it is not sufficient to clinch the decision to move—migrants often need an additional push, which might come, for instance, from belonging to a shared ethnic or other network in receiving countries, which conveys information to would-be migrants back home.
In this vein, an important 2003 micro-oriented research paper by economist Kaivan Munshi establishes that Mexican migrant workers with a larger community network in the US enjoy better labour market outcomes than those with weaker network ties, other things being equal.
Finally, sifting the macro-oriented empirical studies, a 2008 research paper by economist Gordon Hanson concludes that labour migration confers large economic benefits on migrants themselves, while the net effects on sending and receiving countries are difficult to quantify.
Still, he is confident enough to assert that there exists no empirical study sufficiently persuasive to overturn the basic economic intuition that migration improves global economic efficiency—exactly as the early work by Samuelson and Mundell that we studied at the outset established theoretically.
A more efficient—and a more just—world would involve breaking down, rather than erecting, barriers to the movement of people. This is a lesson that Europe’s leaders ought to heed as they confront waves of putative new migrants on their doorstep.
Economics Express runs weekly, and features interesting reads from the world of economics and finance.
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