Perhaps the one question facing trade economists with the most urgency is the effect of liberalization and other trade shocks on the welfare of workers, a question which has generated a large body of research. However, a feature shared by almost all of the extant trade literature on this is a reliance on static models, in which workers are assumed to be either instantly costlessly mobile, or perfectly immobile (we will discuss important exceptions below). This prevents the trade literature from even addressing, let alone answering, some central questions: What are the costs faced by workers who wish to move to a new industry in response to import competition? How long will the labor market take to adjust, and find its new steady state? Will that steady state feature a lasting differential impact on workers in the import-affllicted sector, or will arbitrage equalize worker returns in the long run? What are the lifetime welfare effects on workers in different industries, taking into account moving costs and transitional dynamics?
This paper offers an approach to answering these questions. Within the context of a standard trade model, we specify a dynamic, equilibrium model of costly labor adjustment, a model fully studied in Cameron, Chaudhuri and McLaren (2003). We then show how the structural moving-cost parameters of this model can be estimated, using Euler-equation-type techniques borrowed from macroeconomics. We then use these parameters to simulate stylized trade shocks and show their dynamic equilibrium impact.
A large number of studies in the trade economics field have attempted to measure the effects of trade shocks on wages. Some have investigated correlations between changes in wage premia and skilled-unskilled employment ratios with changes in product prices, as Lawrence and Slaughter (1993), to identify the degree to which trade is responsible for observed wage history; many others regress changes in wages sector by-sector on sectoral changes in trade policy, as Pavcnik, Goldberg and Attanasio (2004). Slaughter (1998) provides an overview.
Much has been learned from this literature, but because of the atemporal models on which it is built, it is not helpful in analyzing the dynamic time-path of development or the lifetime dynamic incidence of trade policy changes. Robertson and Dutkowsky (2002) do use an Euler equation approach to estimate labor adjustment costs in Mexico with a focus on international policy, but the focus is quite different from our paper. In particular, it focusses on adjustment costs from the point of view of employers rather than workers, and employs a model that rules out gross flows in excess of net flows, thus ruling out an important feature of the data that is central to our approach.
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Trade Shocks and Labor Adjustment: An Empirical Model
