IDEAS home Printed from https://ideas.repec.org/
MyIDEAS: Login to save this paper or follow this series

Openness, government size and the terms of trade

This paper investigates the relationship between trade openness and the size of government, both theoretically and empirically. We show that openness can increase the size of governments through two channels: (1) a terms of trade externality, whereby trade lowers the domestic cost of taxation and (2) the demand for insurance, whereby trade raises risk and public transfers. We provide a unified framework for studying and testing these two mechanisms. First, we show how their relative strength depends on a key parameter, the elasticity of substitution between domestic and foreign goods. Second, while the terms of trade externality leads to inefficiently large governments, the increase in public spending due to the demand for insurance is optimal. We show that large volumes of trade may result in welfare losses if the terms of trade externality is strong enough while small volumes of trade are always beneficial. Third, we provide new evidence on the positive association between openness and the size of government and test whether it is consistent with the terms of trade externality or the demand for insurance. Our findings suggest that the positive relationship is remarkably robust and that the terms of trade externality may be the driving force behind it, thus raising warnings that globalization may have led to inefficiently large governments.

If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.

File URL: http://www.econ.upf.edu/docs/papers/downloads/915.pdf
File Function: Whole Paper
Download Restriction: no

Paper provided by Department of Economics and Business, Universitat Pompeu Fabra in its series Economics Working Papers with number 915.

as
in new window

Length:
Date of creation: Nov 2005
Date of revision: Jan 2008
Handle: RePEc:upf:upfgen:915
Contact details of provider: Web page: http://www.econ.upf.edu/

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

as in new window
  1. James E. Rauch, 1996. "Networks versus Markets in International Trade," NBER Working Papers 5617, National Bureau of Economic Research, Inc.
  2. Persson, Torsten & Tabellini, Guido, 1998. "The size and scope of government: Comparative politics with rational politicians," Seminar Papers 658, Stockholm University, Institute for International Economic Studies.
  3. David E. Weinstein & Christian Broda, 2004. "Globalization And The Gains From Variety," Econometric Society 2004 Latin American Meetings 327, Econometric Society.
  4. Grossman, Gene & Helpman, Elhanan, 1993. "Protection for Sale," CEPR Discussion Papers 827, C.E.P.R. Discussion Papers.
  5. Gali, Jordi, 1994. "Government size and macroeconomic stability," European Economic Review, Elsevier, vol. 38(1), pages 117-132, January.
  6. David K. Backus & Mario J. Crucini, 1998. "Oil Prices and the Terms of Trade," NBER Working Papers 6697, National Bureau of Economic Research, Inc.
  7. Paolo Epifani & Gino Gancia, 2005. "Openness, government size and the terms of trade," Economics Working Papers 915, Department of Economics and Business, Universitat Pompeu Fabra, revised Jan 2008.
  8. Alberto Alesina & Roberto Perotti, 1994. "The Welfare State and Competitiveness," NBER Working Papers 4810, National Bureau of Economic Research, Inc.
  9. Robin Boadway & Shlomo Maital & Martin Prachowny, 1973. "Optimal Tariffs, Optimal Taxes and Public Goods," Working Papers 120, Queen's University, Department of Economics.
  10. Kyle Bagwell & Robert W. Staiger, 2006. "What Do Trade Negotiators Negotiate About? Empirical Evidence from the World Trade Organization," NBER Working Papers 12727, National Bureau of Economic Research, Inc.
  11. Persson, Torsten & Tabellini, Guido, 1991. "The Politics of 1992: Fiscal Policy and European Integration," CEPR Discussion Papers 501, C.E.P.R. Discussion Papers.
  12. Roger H. Gordon, 1982. "An Optimal Taxation Approach to Fiscal Federalism," NBER Working Papers 1004, National Bureau of Economic Research, Inc.
  13. Muhammad Islam, 2004. "The long run relationship between openness and government size: evidence from bounds test," Applied Economics, Taylor & Francis Journals, vol. 36(9), pages 995-1000.
  14. Fatas, Antonio & Mihov, Ilian, 2001. "Government size and automatic stabilizers: international and intranational evidence," Journal of International Economics, Elsevier, vol. 55(1), pages 3-28, October.
  15. Rodrik, Dani, 1996. "Why do More Open Economies Have Bigger Governments?," CEPR Discussion Papers 1388, C.E.P.R. Discussion Papers.
  16. Robert W. Staiger & Kyle Bagwell, 1999. "An Economic Theory of GATT," American Economic Review, American Economic Association, vol. 89(1), pages 215-248, March.
  17. Fernando Broner & Alberto Martin & Jaume Ventura, 2006. "Sovereign risk and secondary markets," Economics Working Papers 998, Department of Economics and Business, Universitat Pompeu Fabra, revised Aug 2009.
  18. Lindbeck, Assar & Weibull, Jorgen W., 1993. "A model of political equilibrium in a representative democracy," Journal of Public Economics, Elsevier, vol. 51(2), pages 195-209, June.
  19. Newbery, David M G & Stiglitz, Joseph E, 1984. "Pareto Inferior Trade," Review of Economic Studies, Wiley Blackwell, vol. 51(1), pages 1-12, January.
  20. Jordi Gali & Tommaso Monacelli, 2005. "Optimal fiscal policy in a monetary union," Proceedings, Federal Reserve Bank of San Francisco.
  21. Perotti, Roberto & Alesina, Alberto, 1997. "The Welfare State and Competitiveness," Scholarly Articles 4553027, Harvard University Department of Economics.
  22. Julian di Giovanni & Andrei A. Levchenko, 2006. "Openness, Volatility and the Risk Content of Exports," 2006 Meeting Papers 86, Society for Economic Dynamics.
  23. Bénassy, Jean-Pascal, 1996. "Is there always too little research in endogenous growth with expanding product variety ?," CEPREMAP Working Papers (Couverture Orange) 9615, CEPREMAP.
  24. Hassler, John & Mora, Jose & Storesletten, Kjetil & Zilibotti, Fabrizio, 2002. "The Survival of the Welfare State," Seminar Papers 704, Stockholm University, Institute for International Economic Studies.
  25. Stephen J. Turnovsky, 1987. "The Gains from Fiscal Cooperation in the Two Commodity Real Trade Model," NBER Working Papers 2466, National Bureau of Economic Research, Inc.
  26. van der ploeg, F., 1987. "Coordination of optimal taxation in a two-country equilibrium model," Economics Letters, Elsevier, vol. 24(3), pages 279-285.
  27. Daron Acemoglu & Jaume Ventura, 2002. "The World Income Distribution," The Quarterly Journal of Economics, MIT Press, vol. 117(2), pages 659-694, May.
  28. Limão, Nuno, 2005. "Preferential Trade Agreements as Stumbling Blocks for Multilateral Trade Liberalization: Evidence for the US," CEPR Discussion Papers 4884, C.E.P.R. Discussion Papers.
  29. Giancarlo Corsetti & Paolo Pesenti, 2001. "Welfare And Macroeconomic Interdependence," The Quarterly Journal of Economics, MIT Press, vol. 116(2), pages 421-445, May.
  30. Devereux, Michael B, 1991. "The Terms of Trade and the International Coordination of Fiscal Policy," Economic Inquiry, Western Economic Association International, vol. 29(4), pages 720-36, October.
  31. Kiviet, Jan F., 1995. "On bias, inconsistency, and efficiency of various estimators in dynamic panel data models," Journal of Econometrics, Elsevier, vol. 68(1), pages 53-78, July.
  32. Persson, Torsten & Tabellini, Guido, 1995. "Double-edged incentives: Institutions and policy coordination," Handbook of International Economics, in: G. M. Grossman & K. Rogoff (ed.), Handbook of International Economics, edition 1, volume 3, chapter 38, pages 1973-2030 Elsevier.
  33. Alesina, Alberto & Wacziarg, Romain, 1998. "Openness, country size and government," Journal of Public Economics, Elsevier, vol. 69(3), pages 305-321, September.
  34. Harold L. Cole & Maurice Obstfeld, 1989. "Commodity Trade and International Risk Sharing: How Much Do Financial Markets Matter?," NBER Working Papers 3027, National Bureau of Economic Research, Inc.
  35. Garen, John & Trask, Kathleen, 2005. "Do more open economies have bigger governments? Another look," Journal of Development Economics, Elsevier, vol. 77(2), pages 533-551, August.
  36. Dani Rodrik, 1997. "Has Globalization Gone Too Far?," Peterson Institute Press: All Books, Peterson Institute for International Economics, number 57, March.
  37. Wacziarg, Romain & Welch, Karen Horn, 2003. "Trade Liberalization and Growth: New Evidence," Research Papers 1826, Stanford University, Graduate School of Business.
  38. Andersen, Torben M., 2004. "Challenges to the Scandinavian welfare model," European Journal of Political Economy, Elsevier, vol. 20(3), pages 743-754, September.
  39. Wilson, John Douglas, 1987. "Trade, Capital Mobility, and Tax Competition," Journal of Political Economy, University of Chicago Press, vol. 95(4), pages 835-56, August.
  40. Stephen Bond & Céline Nauges & Frank Windmeijer, 2002. "Unit Roots and Identification in Autoregressive Panel Data Models: A Comparison of Alternative Tests," 10th International Conference on Panel Data, Berlin, July 5-6, 2002 C5-4, International Conferences on Panel Data.
  41. Josep M. Vilarrubia, 2006. "Neighborhood effects in economic growth," Banco de Espa�a Working Papers 0627, Banco de Espa�a.
  42. Tommaso Monacelli & Roberto Perotti, 2008. "Openness and the Sectoral Effects of Fiscal Policy," Journal of the European Economic Association, MIT Press, vol. 6(2-3), pages 395-403, 04-05.
Full references (including those not matched with items on IDEAS)

This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

When requesting a correction, please mention this item's handle: RePEc:upf:upfgen:915. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: ()

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.

This information is provided to you by IDEAS at the Research Division of the Federal Reserve Bank of St. Louis using RePEc data.