International trade and organizations

The three central primitives of international trade theory are consumer preferences, factor endowments, and the production technologies that allow firms to transform factors of production into consumer goods. A limitation of traditional trade theory, however, is that the specification of technology treats the mapping between factors of production and final goods as a black box. In practice, the decisions of agents in organizations determine this mapping. Recently, international trade economists have incorporated insights from the field of Organizational Economics into their theories, thereby shedding new light on the mapping between factors of production and consumer goods. This research agenda is important for at least three reasons. First, it provides an explanation for phenomena that standard trade theory is unable to explain (such as the boundaries and hierarchical structure of multinational firms, or the determinants of intrafirm trade). Second, this literature illustrates how considering the endogenous response of organizations to changes in the economic environment (such as falling trade costs, declining communication costs, or improvements in contract enforcement) can dramatically affect or even overturn some predictions of standard models. Third, this line of models leads to a revision of key aspects of the design of efficient international trade agreements. What follows is a brief account of some of my own contributions to the literature on international trade and organizations. In my joint survey article with Esteban Rossi-Hansberg, (1) we have attempted to provide a more balanced overview of this literature. Property Rights and the International Organization of Production In my Ph.D. dissertation, I studied different aspects of the recent increase in the globalization of production. I stressed the fact that in developing their global sourcing (or offshoring) strategies, firms not only decide on where to locate the different stages of the value chain, but also on the extent of control they want to exert over these processes. Firms may decide to keep the production of intermediate inputs within firm boundaries, thus engaging in foreign direct investment (FDI) and intrafirm trade, or they may choose to contract with arm's length suppliers for the procurement of these components, thus engaging in foreign outsourcing and arm's-length trade. In order to understand systematic patterns in these firm decisions, models of the international organization of production that combine elements from international trade models and from theory-of-the-firm models are needed. In early work, I built on the influential incomplete-contracting, property-rights theory of the firm of Grossman, Hart, and Moore. (2) In a first paper, (3) I unveil two systematic patterns in the intrafirm component of U.S. trade and show that an incomplete-contracting version of the Helpman and Krugman (1985) framework can successfully explain them. More specifically, I start out by demonstrating the existence of l) a positive cross-industry correlation between capital intensity and the share of intrafirm imports in total U.S. imports, and 2) a positive cross-country correlation between an exporting country's relative capital abundance and the share of intrafirm trade. The theoretical model establishes that these correlations can easily be rationalized in a world in which property rights are allocated in an efficient manner across producers worldwide. The key partial equilibrium result in the paper is that vertical integration of foreign suppliers is optimal only when the elasticity of output (or sales) with respect to the final-good producer's noncontractible investments is large relative to the elasticity of output (or sales) with respect to the supplier's noncontractible investments. Because the noncontractible investments carried out by final-good producers are generally more capital-intensive than those undertaken by supplying firms (see the paper for evidence), the rationale for integration is much stronger in capital intensive sectors. …