North-South Trade, Capital Accumulation and Personal Distribution of Wealth and Income

In recent years a lot of work has been done on the dynamics of personal distribution of wealth and income in a macro economy (e.g. Das (1993), Benabou (1996)). Similarities in the relative wages and personal distribution across countries have also been noted. While the issue of trade and relative wages has received considerable attention lately, how trade affects personal distribution of wealth and income is relatively unknown. The venerable Stolper-Samuelson theorem predicts the effects of trade policy on the wellbeing of workers and capitalists. The modern society is however quite different from the "classical" dichotomous industrial society consisting of a working class with little ownership of capital and capitalists without significant labor income. The transaction costs of acquiring and disposing assets are quite low today and we observe -- both in developed and developing countries -- a vast cross-section of "middle class" households having labor and nonlabor income from assets. Thus there is no monotonic link from functional to personal distribution. Extending along Das (1999 a, b), this paper develops a baseline, factor- endowment cum capital accumulation model of trade with heterogeneous households in terms of idiosyncratic preference shocks. It studies the effects of free trade in goods and loans on long-run capital stock, personal distribution and distributional mobility within a country. It is shown that in the North (capital-rich in the steady state compared to South), free trade in goods lowers the capital stock but increases the variance of capital holding across households. Thus wealth inequality, measured by the coefficient of variation, increases. Income and welfare inequalities also increase. Furthermore, wealth-income mobility goes down. The opposite implications hold in the South. With free trade in goods being the initial situation, free borrowing increases (decreases) the capital stock in the North (South). But inequality (This abstract was borrowed from another version of this item.)