Long-Run Development in the Open Economy

Are open economies characterized by superior economic performance in the long-run? This paper revisits this important question from the point of the view of unified growth theory. Contrary to other recent attempts to study this question, the paper considers two distinct channels through which openness might affect growth, namely trade in final goods and technology transfer. Constructing a two-country two-sector unified growth model that incorporates both these channels, it is argued that although trade and the resulting specialization in production generate a force of divergence between the two economies, this can be mitigated or even countered by the effect of technology transfer. In this context, the paper identifies differences in the level of education between the two countries as the crucial factor in determining which of the two forces is going to dominate. The predictions of the theory are then confronted with empirical evidence from cross-sectional and panel growth regressions that span the period from 1870 to 2008. The obtained estimates indicate a strong pattern of convergence among open economies with high initial levels of human capital which is robust to various specification tests.