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Uncertainty, Optimal Specialization and Growth

  • Michele Di Maio
  • Marco Valente

We present a novel argument demonstrating that when trade is characterized by uncertainty the comparative advantages doctrine is misleading and a positive level of diversification is growth enhancing. Applying a result developed in the mathematical biological literature, we show that, in Ricardian trade model in which capital available for investment depends on previous periods returns, incomplete specialization is optimal. We also demonstrate that, in this case, the decentralized solution is characterized by an inefficiently high level of specialization with respect to the social optimal one. Finally, we present a taxation scheme that, reconciling individual incentives and social optimum, is able to induce individual agents to adopt the optimal specialization strategy, i.e. the one that maximizes the country growth rate.

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Paper provided by Laboratory of Economics and Management (LEM), Sant'Anna School of Advanced Studies, Pisa, Italy in its series LEM Papers Series with number 2006/05.

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Date of creation: 14 Feb 2006
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Handle: RePEc:ssa:lemwps:2006/05
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  1. Sinn, Hans-Werner, 1996. "Social Insurance, Incentives and Risk Taking," Munich Reprints in Economics 19834, University of Munich, Department of Economics.
  2. Redding, S., 1997. "Dynamic Comparative Advantage and the Welfare Effects of Trade," Economics Papers 140, Economics Group, Nuffield College, University of Oxford.
  3. Samuel Bowles & Ugo Pagano, 2003. "Economic Integration, Cultural Standardization and the Politics of Social Insurance," Department of Economics University of Siena 408, Department of Economics, University of Siena.
  4. Acemoglu, Daron & Zilibotti, Fabrizio, 1997. "Was Prometheus Unbound by Chance? Risk, Diversification, and Growth," Journal of Political Economy, University of Chicago Press, vol. 105(4), pages 709-51, August.
  5. Krugman, Paul, 1991. "Increasing Returns and Economic Geography," Journal of Political Economy, University of Chicago Press, vol. 99(3), pages 483-99, June.
  6. Rivera-Batiz, Luis A. & Romer, Paul M., 1991. "International trade with endogenous technological change," European Economic Review, Elsevier, vol. 35(4), pages 971-1001, May.
  7. Newbery, David M G & Stiglitz, Joseph E, 1984. "Pareto Inferior Trade," Review of Economic Studies, Wiley Blackwell, vol. 51(1), pages 1-12, January.
  8. Dornbusch, Rudiger & Fischer, Stanley & Samuelson, Paul A, 1977. "Comparative Advantage, Trade, and Payments in a Ricardian Model with a Continuum of Goods," American Economic Review, American Economic Association, vol. 67(5), pages 823-39, December.
  9. Ruffin, Roy J., 1974. "International trade under uncertainty," Journal of International Economics, Elsevier, vol. 4(3), pages 243-259, August.
  10. Brainard, William C. & Cooper, Richard N., 1968. "Uncertainty and Diversification in International Trade," Food Research Institute Studies, Stanford University, Food Research Institute, issue 03.
  11. S. Lael Brainard, 1991. "Protecting Losers: Optimal Diversification, Insurance, and Trade Policy," NBER Working Papers 3773, National Bureau of Economic Research, Inc.
  12. Saint-Paul, Gilles, 1992. "Technological choice, financial markets and economic development," European Economic Review, Elsevier, vol. 36(4), pages 763-781, May.
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