6

Immigrants and Natives in General Equilibrium Trade Models

Daniel Trefler

Nothing captures the links between trade and migration better than the discussions about whether migration belonged on the North American Free Trade Agreement (NAFTA) bargaining table. On the one hand, the free flow of goods was viewed by the U.S. Commission for the Study of International Migration and Cooperative Economic Development (1990) as the single most important remedy for stemming illegal immigration. On the other hand, as was the case for U.S. citrus producers threatened by NAFTA, expanded quotas for seasonal migrants were advanced as an alternative to the free flow of goods. Stated crudely but accurately, NAFTA was often seen in terms of a trade-off between expanded imports of Mexican goods and expanded "imports" of Mexican people, legal and illegal.

Interest in trade and migration stems from the enormous disparity between U.S. and Mexican wages. For example, Samsung recently moved its picture tube production facilities from New Jersey where it paid workers $9 an hour to Tijuana where it now pays workers $1.10 an hour (New York Times, May 23, 1996). It would seem that even the most misguided of U.S. managers should long ago have recommended a move south. If so, why are there any jobs left in the United States? The Mexicans play the flip side of this sad song. If wages are so high in the United States, why are there any Mexicans left in Mexico? The answer, of course, is the focus of the NRC Panel on the Demographic and Economic Impacts of Immigration.

There are tangible concerns about the impact of trade and immigration on a U.S. labor force that is reeling from three decades of rising wage inequality. As is well known, U.S. average wages have stagnated, and the spread in wages



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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration 6 Immigrants and Natives in General Equilibrium Trade Models Daniel Trefler Nothing captures the links between trade and migration better than the discussions about whether migration belonged on the North American Free Trade Agreement (NAFTA) bargaining table. On the one hand, the free flow of goods was viewed by the U.S. Commission for the Study of International Migration and Cooperative Economic Development (1990) as the single most important remedy for stemming illegal immigration. On the other hand, as was the case for U.S. citrus producers threatened by NAFTA, expanded quotas for seasonal migrants were advanced as an alternative to the free flow of goods. Stated crudely but accurately, NAFTA was often seen in terms of a trade-off between expanded imports of Mexican goods and expanded "imports" of Mexican people, legal and illegal. Interest in trade and migration stems from the enormous disparity between U.S. and Mexican wages. For example, Samsung recently moved its picture tube production facilities from New Jersey where it paid workers $9 an hour to Tijuana where it now pays workers $1.10 an hour (New York Times, May 23, 1996). It would seem that even the most misguided of U.S. managers should long ago have recommended a move south. If so, why are there any jobs left in the United States? The Mexicans play the flip side of this sad song. If wages are so high in the United States, why are there any Mexicans left in Mexico? The answer, of course, is the focus of the NRC Panel on the Demographic and Economic Impacts of Immigration. There are tangible concerns about the impact of trade and immigration on a U.S. labor force that is reeling from three decades of rising wage inequality. As is well known, U.S. average wages have stagnated, and the spread in wages

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration between the highest- and lowest-paid workers has grown by 40 percent (Murphy and Welch, 1993). This has naturally led to a suspicion that competition from unskilled foreign workers is at the heart of the trend. The sense is that U.S. workers are getting the short end of the globalization stick and are victims of a U.S. immigration policy that is out of control. This chapter is divided into two parts. The first two sections outline the incentives to migrate and the impact of immigration on native welfare and income distribution. I show how immigration changes the allocation of industry outputs and changes the terms of trade in ways that significantly alter Borja's (1995) conclusions about the costs and benefits of immigration. There are two major lacunae in this chapter. The first deals with income redistribution through the tax system. As I document in what follows, the impact of immigrants is felt unevenly by the native population. This means that the tax system can and should be used to redistribute income from native losers to native winners. How this is best done is discussed by Wildasin (1991, 1994). The second lacuna is that all the models presented here have predictions that hinge critically on the full employment assumption. However, models of immigration and trade with unemployment are developed extensively in Razin and Sadka (1996). Their survey also deals with the fiscal burden of immigrants. In the third section I offer new empirical results about trends in earnings convergence across 75 countries and hence about the supply of immigrants to the United States. In the final section I present a new factor content study whose results significantly differ from those of previous research and point to a large negative impact of changing trade flows on America's least skilled workers. I then offer some caveats about how the lack of a well-defined policy experiment underlying the existing trade-and-wages empirical work has often led to the misinterpretation of that work. THE IMMIGRATION SURPLUS IN A TWO-GOODS ECONOMY Borjas (1995) made the important point that we focus on those who lose from immigration despite the fact that there are also those who benefit. In a stylish exposition, Borjas then showed that even in simple situations it is possible that the benefits created by immigration outweigh the losses. This is the "immigration surplus." Before assessing how the global environment might influence this conclusion, I present Borjas's idea. His original exposition was in terms of a single good, but because international trade requires at least two goods (exports and imports) I need an extension of his results. I do this using the specific factors model of international trade (Mayer, 1974; Mussa, 1974). Let x and y be two industries. Each has a stock of an industry-specific factor (Kx and Ky) that has no value except when employed in its own industry. It may be capital, the industry-specific portion of a worker's human capital, union rents, etc. The other factor is labor. Labor is mobile between industries and earns wage w in both industries. The economy-wide labor supply is L of which Lx is em-

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration ployed in industry x and Ly in industry y. Let MPx (Kx, Lx) be the marginal product of labor in industry x. Labor demand in industry x is calculated from the value of the marginal product of labor, px MPx (Kx, Lx). Panel (a) of Figure 6-1 illustrates labor demand functions for industries x and y. Industry x (y) demand is read from the left (right) origin and the length of the figure's base is the supply of labor in the economy. At wage w, labor supply (L) equals the sum of the industry labor demands (Lx + Ly). The income generated by industry x is the area bounded by OxLxMN of which OxLxMw goes to labor and wMN goes to the specific factor. Industry y's income of OyLxMP is similarly divided between labor and the specific factor. The impact of migration on native welfare depends on whether a specific factor or labor is migrating. The case of migrating labor is shown in panel (b) of Figure 6-1 as an increase in the base of the graph. Δ immigrants arrive. Industry y labor demand shifts right by Δ from py MPy to py MPy´ so that it is unchanged relative to its new origin Oy´. Δx immigrants find employment in industry x and Δ — Δx find employment in industry y. Competition between native labor and immigrants drives down the wage to w´, thus transferring income (w — w')L from native labor to the specific factors. Native labor loses at the expense of capital. Against this is an efficiency gain. Because immigrants complement the specific factors, immigration increases the specific factors' incomes. Net of the transfer from labor, the increases are given by the two shaded areas in Figure 6-1(b), one for industry x and one for industry y. These triangles are Borjas's "immigration surplus" generalized to two industries. Immigration of an industry-specific factor also creates an immigration surplus. In fact, that analysis is very similar to Borjas's analysis of immigrant externalities.1 Immigration in this setting thus appears unambiguously beneficial . GENERAL EQUILIBRIUM MODELS OF INTERNATIONAL TRADE Many of the gains from immigration can be expected over the very long periods it takes for immigrants to assimilate. One would therefore need to know whether the immigration surplus exists in long-run models. Unfortunately, the specific factors model deals with the short run. It allows industry-specific factors to earn rents that are neither equalized across industries nor dissipated over time. Restated, the model does not impose the long-run equilibrium condition of zero profits. In this section I present three long-run general equilibrium models of international trade: the Heckscher-Ohlin model with its factor price equalization theorem, the Ricardian model, and a model of increasing returns to scale. 1   The relevant diagram for immigration of Kx appears as Appendix Figure 6-A1. When immigrants are mobile factors and convey a positive externality, the analysis is just a mix of Figures 6-1(b) and 6-A1. The immigrants convey a surplus by complementing existing capital [Figure 6-1(b)]. In addition, the externality raises native labor productivity and so leads to the Figure 6-A1 analysis, but with both shaded areas contributing to the immigration surplus.

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration FIGURE 6-1 Immigration surplus with mobile factor migration.

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration Factor Price Equalization As the short-run specificity of Kx and Ky dissolve so that capital is mobile between industries, one ends up with the long-run Heckscher-Ohlin model. In this model international trade is a source of product market competition that drives profits to zero. Zero profits in turn impose wage discipline on producers. The model makes a set of strong assumptions aimed at isolating the wage-disciplining effects of trade from all other factors. Consider a perfectly competitive world with constant returns to scale in which countries are identical in every respect except in their endowment of the two factors. In this section I call them skilled labor (S) and unskilled labor (U). Let wS and wU be wages for these two types. There are two goods (x and y) with prices px and py and constant returns to scale production functions fx(S,U) and fy(S,U). Figure 6-2(a) plots the unit-value isocost line giving pairs of skilled and unskilled labor costing one dollar. The figure also plots unit-value isoquants, that is, pairs of skilled and unskilled labor yielding one dollar of output. If product price px is high it takes very little labor to produce a dollar of output [see Figure 6-2(a)]. This leads to positive profits and industry expansion that drive down the price; conversely for low prices. The zero-profit equilibrium is illustrated by the tangency of the two curves in Figure 6-2(a). General equilibrium is illustrated in Figure 6-2(b), where industries x and y both have zero profits. As drawn, industry x is the capital-intensive industry. Because prices of goods and production functions are the same in all countries, the unit-value isoquants are the same in all countries. Because only one isocost can be tangent to both isoquants, unit-value isocosts are the same in all countries. Reading off the isocost intercepts, it follows that wS and wU are the same in every country. This is the factor price equalization theorem. It states that a worker earns the same in all countries. Factor price equalization therefore implies that there are no incentives to migrate. Obviously, the prediction of this theorem is false. But this is the wrong criterion for evaluating it. Like all good theories, factor price equalization uses extreme assumptions to isolate just one of several determinants of international wage differences, namely, the tendency for trade with developing countries to place downward pressure on U.S. wages. The popular press terms this "leveling down." More flamboyantly, Ross Perot calls it the "giant sucking sound." Figure 6-3 explains why the theory is so compelling in a way that abstracts from mathematical detail. International trade forces producers to charge a common price for their goods. With zero profits, this means that they must all have the same production costs. This cost discipline implies, under certain restrictions, that wages will be the same in all countries. Figure 6-3 also points out other determinants of international wage differences that disguise the tendency toward factor price equalization. I do not discuss these, as the main points are either familiar, obvious, or overly technical.

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration FIGURE 6-2 Factor price equalization theorem. The Heckscher-Ohlin Model If workers' wages are the same across countries then there is no incentive for migration. In the jargon of international trade economists, trade is a substitute for migration (see Markusen, 1983). However, it remains possible that immigration is beneficial to natives. Figure 6-2(b) illustrates an output expansion path giving the combination of skilled and unskilled worker pairs that minimize costs at wages wS and wU. With constant returns to scale, an output expansion path is a ray through the origin whose slope depends only on the ratio of factor prices wS/wU. Figure 6-4 plots the x and y output expansion paths for the United States.

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration FIGURE 6-3 Factor price equalization. Point E0 illustrates the U.S. endowment of skilled and unskilled labor. In a full employment equilibrium all these workers must be employed. This occurs only if industry x employs the combination of skilled and unskilled workers given by x0 and industry y employs the combination of workers given by E0-x0. Suppose the United States allows immigration of unskilled Mexican labor so that E0 moves to E1 and x0 moves to x1. Figure 6-4 illustrates what happens in Mexico. Assume initially that factor price equalization holds so that the Mexican and U.S. expansion paths are identical. Because Mexican emigrants are U.S. immigrants, E1 - E0 equals E0* - E1*. Assume momentarily that the migration leaves wages and hence expansion paths unaltered. Then x0 + x0* must equal x1 + x1*; likewise in the y industry.2 That is, total inputs into each industry are unaltered. Consequently, so are total outputs. Because earnings are the same, product markets clear at the old product prices. But if product prices do not change, then factor prices do not change [see proof of factor price equalization in Figure 6-2(b)]. Migration is consistent with unchanged product and factor prices. Thus, 2   For the y industry (E0 - x0) + (E0* - x0*) must equal (E1 - x1) + (E1* - x1*).

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration FIGURE 6-4 Migration in a Heckscher-Ohlin model. in this model, immigration has zero welfare implications for both natives and immigrants. The immigration surplus is zero. Modified Factor Price Equalization and the Heckscher-Ohlin Model The previous model can be modified to allow for international differences in factor quality and technology. Let πc be a measure of productivity in country c and let πcfg (S,U) be country c's production function for good g (g = x, y). Unlike the Heckscher-Ohlin model, there are international technology differences as indicated by the πc.3 With constant returns to scale, πcfg (S,U) = fg (πcS, πc U). Thus, another interpretation of the πc is that they capture international differences in input quality (e.g., better labor market incentives or higher school quality). Let Sc be the national endowment. Sc* EQUIV πcSc is the national endowment measured in internationally comparable or productivity-adjusted units. One unit of Sc* is equivalent to 1/πc units of Sc (i.e., Sc = Sc*/πc). Because one unit of Sc earns WSc, it follows that one unit of Sc* earns wSc/πc; likewise for Uc* EQUIV πc Uc and wUc/πc. The amended model is exactly the same as the original Heckscher-Ohlin model but with (Sc*, Uc*) replacing (Sc, Uc) and (wSc/πc, wUc/πc) replacing (wSc, wUc).4 Thus, factor price equalization holds for productivity-adjusted wages: wSc/πc = wS,US/πUS for all c. (1) 3   In Trefler (1993b, 1995) I considered the more general model fg (πSc S, πUc U). This allows for Hicks non-neutral factor-augmenting international technology differences. 4   For example, Figure 6-2 has unit-value isoquants px fx (S*,U*) = 1 and unit-value isocost line (wSc/πc)S* + (wUc/πc)U* = 1. It follows that (wSc/πc) and (wUc/πc) are equalized across countries.

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration To understand this, if country c labor were half as productive as U.S. labor (πc/ πUS = 1/2), then one would expect country c wages to be half the U.S. wage (wSc = wS,US πc/πUS). Also, the Heckscher-Ohlin prediction about location of production and patterns of trade holds, but again with (Sc,Uc) replaced by (Sc*,Uc*). This amendment is important empirically. Factor price equalization and the Heckscher-Ohlin predictions do not work well empirically (Trefler, 1995). On the other hand, the above modification does work well. Specifically, in Trefler (1993b) I calculated the unique π c/πUS that make the Heckscher-Ohlin prediction work perfectly for aggregate labor. I then showed that equation (1) holds almost exactly when the calculated πc/πUS are plugged in. Figure 6-5 plots relative wages wc/wUS against πc/πUS. Modified factor price equalization [equation (1)] FIGURE 6-5 Modified factor price equalization.

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration implies that all the data should lie along the 45° line as is in fact the case. This kills two birds with one stone: both the factor price equalization and the Heckscher-Ohlin model work well empirically after a slight amendment that accounts for international technology or input quality differences. Such a model may lead to predictions about the impact of immigration that are very different from those of the textbook Heckscher-Ohlin model. Consider a skilled worker deciding whether or not to migrate from his or her low-productivity country to the United States. If πc is an attribute of the worker (e.g., a poor education) then a migrant will have low productivity no matter which country he or she works in and so will not earn more in the United States. There will be no incentive to migrate and no labor market impacts of migration. On the other hand, if productivity is an attribute of the country (e.g., poor labor market incentives) then the worker will earn more in the United States and so will have an incentive to migrate. Suppose skilled workers migrate to the United States and become more productive. This is equivalent to increasing the world supply of skilled workers relative to that of unskilled workers. This expands world production of good x relative to good y (the Rybzcynski effect). As a result, px /py falls. This reduces real wages of skilled natives and raises real wages of unskilled natives (the Stolper-Samuelson theorem). Once again, general equilibrium models of migration yield impact channels very different from those outlined by Borjas (1995). In this case, migration changes migrants' productivity and thus affects the terms of trade. The Ricardian Model To focus more clearly on the terms-of-trade effect, consider a long-run, zero-profit economy in which labor is the only productive input. Let g index goods. One unit of output is produced using ag units of labor. Restated, 1/ag is both labor productivity as well as the marginal product of labor. I use an asterisk to denote foreign country values (e.g., ag*). Following Dornbusch et al. (1977), I order the goods index g so that a1/a1* < … < ag´/ ag´* < … < aG/ aG*. (2) For some g´, the home country is said to have a comparative advantage in goods g ≤; g´. This implies that the home country exports goods g ≥; g´ and imports goods g > g´. Let w and w* be wages in the two countries. For long-run zero profits the price of good g (pg) must equal the cost of producing one unit of good g (wag or w* ag*). I write w/pg > 1/ag to denote zero profits and w/pg > 1/ag to denote losses. For almost all parameter values each good will be produced in only one country. This production specialization result is very different from what was assumed in the Heckscher-Ohlin model and frees the model from the factor-price-equalization straightjacket. If w/pg = 1/ag then the home country produces good g, not the foreign country. If w/pg > 1/ag then the

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration foreign country produces good g, not the home country. For simplicity, assume that there are three goods and that initially the home country produces only good 1. Consider the effect of immigration.5 The immigrants are employed producing good 1, thus creating excess supply of the good at prevailing prices. The resulting home trade deficit drives down the home wage until w/p2 = 1/a2. At that point the home country produces good 2. Likewise, in the foreign country w* rises until industry 2 shuts down. What has happened to real wages and per capita native utility? It is simple enough to show that there is a fall in w/p2 and w/p3 and no change in w/p1.6 Thus, w has fallen relative to any basket of consumer prices. The first conclusion is that migration lowers per capita native welfare. That is, Borjas's immigration ''surplus" is negative. To be crystal clear, the negative immigration "surplus" is driven by the fact that immigration adversely affects the home country's terms of trade. Because immigrant and native labor compete for the same jobs at the same wages, the home country can only absorb the immigrants in low-productivity industries that spring up in response to immigration. One should think of these industries as garments or citrus fruit industries that would disappear in the absence of migrant workers. There are no downward-sloping labor demand functions as in Borjas's analysis, only general equilibrium industrial reallocations between countries in response to changes in the terms of trade.7 External Increasing Returns to Scale Increasing returns to scale potentially generate an immigration surplus. One sees this in the opening up of prairie agriculture: without mass immigration there would not have been large enough grain production to warrant investment in transportation infrastructure. In this subsection I examine the immigration surplus in a long-run increasing returns to scale model. In particular, I consider Helpman's (1984) general equilibrium model in which perfect competition is preserved by assuming that returns to scale are external to the firm. 5   The analysis that follows is informal. A strict statement of results, and one that holds for a continuum of goods rather than three goods, can be found in Dornbusch et al. (1977). The importance of Cobb-Douglas preferences is clearly explained in that paper. I therefore do not deal with the issue here. 6   The proof is as follows. Because home always produces good 1, w/p 1 = 1/a1 is unchanged by migration. w/p2 has fallen to 1/a2. Because w* has risen and w*/p3 = 1/a*3 is unchanged, p3 has risen. Hence, w/p3 has fallen. 7   There is a second conclusion, this one regarding the incentives to migrate and hence the pool of potential migrants. Assume that migration is from poor to rich countries (w > w*). Migration causes w and per capita native utility to fall. Symmetrically, it causes w* and per capita foreign utility to rise. Hence, migration unambiguously leads to international convergence of wages and per capita utility. This is particularly surprising in view of the fact that increased trade flows need not lead to increased convergence of wages or utility (Dixit and Norman, 1980).

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration TABLE 6-3 Method for Adjusting Labor Input Requirements A. Hypothetical Example   Secondary   None Primary Entered Complete College Educational Attainment in Population 25+ United Statesa 0% 10% 15% 35% 40% Indiaa 25% 35% 40% 0% 0% Educational Attainment in Textiles (atgt(i)) United Statesb .00 .02 .10 .05 .03 Indiab .12 .05 .03 .00   B. Actual Adjustments   Secondary College   Import Shares None Primary Entered Complete Entered Completed Countryc 1992 1972 (N) (P) (SE) (SC) (CE) (CC) Above Example     N N N P SE SE High Income 65% 72% N N P SE SC CE Middle Income 16% 6% N N N P P SE Low Income 10% 13% N N N N P P Oil and CME 9% 9% N N N P P P a) Data are percent so that each row sums to 100%. b) Data are in numbers of workers per dollar of textile output. c) The World Bank country classifications are followed closely, but not exactly.

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration somewhat more of educated labor and somewhat less of uneducated labor than is given by atgt(i), because exports consist of skilled processes. To weaken my argument I nevertheless use atgt(i) to calculate the type i factor content of exports. By construction, the modification makes no difference to "all labor." Factor contents calculated in this way are reported in the four Table 6-2 "adjusted" columns. It is remarkable that the no-education labor content of U.S. net imports grew an enormous 168.6 percentage points . It was 343.6 percent of the no-education labor force in 1992, up from 175 percent in 1972 (not reported). For primary education the increase was 37.0 percentage points. Surprisingly, there are even interesting results for skilled labor. The college labor content of net imports fell by 3.7 percentage points. The results are the same when oil producers and nonmarket economies are omitted. I do not think that this exercise is rigged to obtain big impacts. I therefore find the conclusions startling. Can these trade-induced supply changes account for wage trends in the United States? Like a bull in a china shop, let me push forward while deferring discussion of the myriad of caveats. We know the horizontal shift in demand induced by setting the factor content of trade back to its 1972 level [-ΔFT(i) from Table 6-2]. We also know 1992 employment levels [L92(i) from Table 6-2] and have estimates of the elasticities of labor demand εD(i) and supply εS(i). The percentage change in wages induced by changes in the factor content of trade is thus10 Δw(i) EQUIV [w92(i) - w72(i)/w92(i) = [-ΔFT(i)/L92(i)]/[εD(i) + εS (i)]. (8) Table 6-4 reports the values of Δw(i) for the adjusted factor content calculations, i.e., for the ΔFT(i) given by the Table 6-2 column labeled "net imports, 1992–1972, adjusted." Because elasticities are not known with certainty, I report results for different estimates. The first and third rows are extreme combinations of estimates and provide upper and lower bounds on the wage movements. The middle row elasticity estimates of 0.75 for labor demand and 0.5 for labor supply are more common. In the middle row experiment, changing trade patterns reduce wages of primary education workers by 30 percent and raise wages of college graduates by 5 percent. This 35 percent spread is of the same order of magnitude TABLE 6-4 Wage Effects of Changing U.S. Trade Patterns   Secondary Elasticities None Primary Entered Complete College All Demand Supply (%) (%) (%) (%) (%) (%) 0.50 0.10 -573 -63 -8 16 9 -1.9 0.75 0.50 -275 -30 -4 8 5 -0.9 1.00 1.00 -172 -19 -2 5 3 -0.6 Percentile   0.7 7.7 29.8 68.1 100   NOTE: The table reports 100(w92 - w72)/w92 induced by the 1972–92 changes in the adjusted factor content of net imports. See equation (8).

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration as that actually experienced by the U.S. economy.11 For reasons discussed below, I do not want to push too hard on this point except to say that it is surprisingly easy to use factor content calculations to partially mimic observed wage changes.12 On the other hand, what I find completely persuasive is the wage effects at the bottom of the education distribution. For the 0.7 percent of the labor force with no education, imports have augmented their supply by almost 170 percentage points and reduced their wage by 275 percent. Imports are devastating the small portion of the work force with little education. There are a number of issues omitted in this simplistic study. I have not introduced elasticities of substitution between types of labor. Adding this effect diminishes the wage impacts. Nor have I considered labor-capital substitution possibilities. Because net imports of capital have increased by only 0.1 percentage points over the period, trade has not led directly to capital deepening. If capital is a substitute for unskilled labor and a complement for skilled labor, my implicit assumption of zero elasticities leads to overstated wage impacts. Finally, and arguably most important, I ignored the participation decision. As is apparent from the tables, the biggest effect is on those workers who are most likely to be fluidly moving in and out of the labor force. By forcing workers out of the labor force, trade is likely to have significant effects on poverty that are not apparent from wage data. Trade Versus Immigration as an Explanation of Wage Trends Borjas et al. (1992) raised the question of whether trade or immigration has been more important in explaining wage trends. Factor content analyses gloss over several facts that are difficult to quantify. Immigration is a stock whereas trade is a flow. That is, an immigrant arrival increases the stock of immigrants not only in the year of arrival, but also in subsequent years. Trade, or at least nondurable trade, has an impact only in the year it arrives. For example, in 1992 immigration and the labor content of net imports were of comparable magnitudes: 1.0 million immigrants and 1.4 million workers embodied in trade. This is a flow calculation. The stock calculation for 10   To see this let D92(w72) be the 1992 labor demand schedule evaluated at 1972 wages and shift this demand curve out from the 1992 equilibrium by an amount – ΔFT = D92(w72) - L72 that can be calculated from Table 6-2. To obtain equation (8), start with εD = - [L92 - D92(w72)] / [L92 Δw], substitute out D92(w72) using the expression for -ΔFT, and substitute out L72 using εS = [L92 - L72] / [L92 Δw]. 11   This requires an obvious caveat. The bottom of the table reports that the education groups map poorly into percentiles of the U.S. labor force. 12   For the unadjusted factor content calculations (i.e., when ΔFT(i) is taken from the Table 6-2 column labeled "net imports, 1992–1972, total"), Δw(i) is tiny for all types of labor except no-education labor where it ranges between 5–17 percent for the Table 6-4 choice of elasticities. Thus, it is the factor content adjustment rather than the elasticities that drives the wage result.

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration the period 1972–1992 yields 30 million immigrants compared with a 0.5-million worker change in the labor content of net imports. Thus, immigration would appear to have much greater labor market consequences. Against this must be balanced the fact of assimilation. Over sufficiently long horizons one might want to treat past immigrants as natives. Immigration has income effects, but without the price-reducing benefits of trade. Import competition has two offsetting effects. It drives down consumer prices (a benefit), and it drives down the incomes of at least some natives (a cost). However, at the point where import competition totally displaces the domestic industry, increased imports have no further negative impact on native incomes. The only effect is beneficial lower consumer prices. This safety valve of comparative advantage specialization is not a feature of immigration. As long as immigrants have skills comparable to those of natives and as long as labor markets are not perfectly segmented along immigrant-native lines, immigrants will compete for native jobs and incomes. When a Mexican arrives in the United States, the impact is felt in every sector where the immigrant is potentially employable. The comparative advantage safety valve suggests that immigration has a more adverse consequence than trade. Import levels are not indicative of all the potentially harmful labor market consequences of trade. For example, there are cases of foreign firms that do not compete in the U.S. market even though they would if the U.S. product price rose by a small amount. In such contestable markets the possibility of imports constrains the behavior of U.S. firms as tangibly as do realized imports (see also Brander and Spencer, 1981, for a limit-pricing model of trade). None of this is captured by the existing empirical literature, but such a study would lead one to raise the importance of trade relative to migration. On the other hand, trade has positive welfare implications not captured by the existing empirical work surrounding the trade and wages debate . These are the benefits associated with comparative advantage, specialization, procompetitive effects, dynamic efficiency gains, etc. None of these enter into existing empirical work. The same could be said of the immigration benefits of reunifying families, sheltering refugees, etc., as well as the long-run growth facilitated by immigration. My predilection as a trade economist is to argue that at the margin the unmeasured gains from trade far exceed the unmeasured benefits of migration. What is the Experiment? As Leamer (1993) notes, a problem with analysis of the type considered so far is that it is not built around a well-defined policy experiment. Questions about whether immigration is good or trade is bad tend to be overly vague, too grand in conception, and irrelevant to what we care about, namely policy interventions. Like the water and diamond paradox, this leads to confusion between the total

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration consumer surplus from trade and the marginal consumer surplus created or destroyed by current policy proposals. Total consumer surplus from trade is enormous (imagine a U.S. economy that had not imported journals documenting the British discovery of DNA) but irrelevant to policy. This subsection illustrates the importance of building empirical studies around well-defined policy interventions. Immigration has a clear policy handle. The level of immigration is controlled through quotas, and the type of immigrant is selected through such criteria as the need for specific skills. Although policy does not fully control immigrant quality and even less so illegal immigration (Hanson and Spilimbergo, 1996), at least there is some possibility for designing policies to affect these outcomes. In contrast, trade levels are endogenous equilibrium outcomes only partially amenable to policy interventions. The level and composition of trade is less a policy instrument than a vehicle through which policies are transmitted. For example, the run-up of the merchandise trade deficit during the 1980s was not a policy. To the contrary, U.S. trade policy was increasingly protectionist at that time. The deficit at least partly reflected President Reagan's fiscal policies that were totally unrelated to trade (Krugman, 1994). For another example, immigrants promote trade with their country of origin (Baker and Benjamin, 1996) so that trade patterns are to some degree driven by immigration policies! This raises doubts about the meaning of, among other things, factor content studies. Suppose a trade deficit develops not because of policy interventions but because of falling transport costs and other components of globalization. Because the impact of globalization is not simply a changed U.S. trade pattern, one wonders what the above factor content calculation captures. Consider an assessment of the factor content of trade that explicitly recognizes the multicountry general equilibrium changes associated with globalization. Let L c and Lw denote the supplies of labor in country c and the world, respectively. Let gdpc and gdpw denote gross domestic product in country c and the world, respectively. Under the assumption of consumption similarity, each country indirectly consumes a fraction sc = gdpc/gdpw of the world labor supply. Lc - scLw is the difference between country c's supply of labor and consumption of labor. By definition, this is the factor content of trade. How would one calculate this using input-output tables and trade flow data? Let atgc be the total (in an input-output sense) amount of labor needed to produce one unit of good g in country c. Let Xgc be country c's exports of good g and let Mgc,US be U.S. imports from country c of good g. All the interesting action is with intermediate goods (the bulk of trade flows), so assume that all trade is in intermediate goods. It is tempting to think that LUS - sUS Lw = Σg{atg,US Xg,US - Σc atgc Mgc,US}, (9) where one uses country c technology atgc when assessing the factor content of goods produced in country c. However, this turns out to be incorrect because it ignores the impact of globalization on the rest of the world.

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration As shown in Trefler (1996), the correct equation is LUS - sUS Lw = Σg {atg,US (Xg,US - Mg,US) - sUS Σcatgc (Xgc - Mgc)}, (10) where Mgc is country c imports of good g from the rest of the world. From the perspective of the United States alone, national income accounting rules dictate that net exports of intermediate goods are a component of final demand. This explains the equation (10) term Σg atg,US (Xg,US -Mg,US) which is just the usual definition of the U.S. factor content of trade. However, from the perspective of the world as a whole, an intermediate good does not magically become a final good simply by crossing a national boundary. Restated, for the United States alone, net exports are exogenous whereas for the world as a whole net exports are endogenous. The second term on the right-hand side of equation (10) is a correction that accounts for the endogeneity of trade. The choice between equations (9) and (10) depends on whether one wants to treat changes in U.S. trade flows as an exogenous shock or whether one wants to look for a more fundamental international shock that drives U.S. trade flows. For policy analysis, clearly the latter is what matters, and factor content studies based on equation (9) are flawed. In short, one can be seriously misled by failing to clearly articulate the policy environment, including the exogenous shock and the policy instrument. CONCLUSIONS We tend to focus on those who lose from immigration to the exclusion of those who benefit. Borjas (1995) used this observation to show that in the short run immigration may yield a net social benefit. Unfortunately, the argument unravels when imbedded in long-run models of international trade. Borjas's immigration "surplus" is zero in the Heckscher-Ohlin model with its factor price equalization theorem. The immigration surplus is negative in the Ricardian model with its negative terms-of-trade effect and industrial "ghettoization" of immigrant labor. To obtain an immigration surplus, an additional kick from immigration is needed as in the increasing returns to scale model with its immigrant externality. The second half of this chapter had an empirical focus. In light of the dramatic growth in globalization pressures, there is surprisingly little evidence of earnings convergence across countries. This implies that the supply pressures for migration to the United States remain as strong as they were 30 years ago. This appears to hold true even after disaggregating by the level of education of different types of potential immigrants. Another empirical surprise comes from my new factor content study. It indicates that changes in U.S. trade patterns almost certainly battered wages of those at the very bottom of the skill ladder. It also hints at the possibility that, contrary to conclusions of previous research, the changing composition of international trade can explain a large proportion of rising U.S. wage inequality. If so, then trade may be at least as important as immigration in explaining recent labor market trends in the United States. How-

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration ever, I offered a number of caveats to this last interpretation. Finally, much of the research in this area treats observed changes in equilibrium trade flows as equivalent to the changes one might expect from altering international trade policies. This has led researchers to overstate the importance of trade policy. In contrast, immigration policy is more efficacious in application and should therefore play center stage in policy discussions. ACKNOWLEDGMENTS I am indebted to my students at the Harris School for pursuing many of the ideas in this chapter as term papers, to Edgard Rodriguez for data on Filipino migrants, to Huiwen Lai for his research assistance, to Chris Thornberg for data from the 1972 Current Population Survey, and to Michael Baker and Alysious Siow for helpful comments. The third section of this chapter borrows from work in progress with Joe Hotz. George Borjas and Richard Freeman helped frame the questions, and Danny Rodrik helped bring the answers into focus. REFERENCES Baker, Michael, and Dwayne Benjamin 1996. "Asia-Pacific Immigration and the Canadian Economy." Pp. 303–347 in The Asia-Pacific Region in the Global Economy: A Canadian Perspective Richard G. Harris, ed. Calgary: University of Calgary. Barro, Robert J., and Jong-Wha Lee 1993. "International Comparisons of Educational Attainment." NBER Working Paper 4349. Cambridge Mass.: National Bureau of Economic Research. Berman, Eli, John Bound, and Zvi Griliches 1994. "Changes in the Demand for Skilled Labor Within U.S. Manufacturing Industries: Evidence from the Annual Survey of Manufacturing." Quarterly Journal of Economics 109(March):367–397. Borjas, George J. 1987. "Self-Selection and the Earnings of Immigrants." American Economic Review 77 (September):531–553. Borjas, George J. 1995. "The Economic Benefits from Immigration." Journal of Economic Perspectives 9 (Spring):1–22. Borjas, George J., and Valarie A. Ramey 1993. "Foreign Competition, Market Power, and Wage Inequality: Theory and Evidence." NBER Working Paper 4556. Cambridge Mass.: National Bureau of Economic Research. Borjas, George J., Richard Freeman, and Lawrence F. Katz 1992. "On the Labor Market Effects of Immigration and Trade." In Immigration and the Workforce, George J. Borjas and Richard Freeman, eds. Chicago: University of Chicago Press. Brander, James A., and Barbara J. Spencer 1981. "Tariffs and the Extraction of Foreign Monopoly Rents under Potential Entry." Canadian Journal of Economics 14:371–389. Card, David, and Alan B. Krueger 1992. "Does School Quality Matter? Returns to Education and the Characteristics of Public Schools in the United States." Journal of Political Economy 100 (February):1–40.

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration FIGURE 6-A1 Immigration surplus with industry-specific migration. Notes: The figure illustrates the impact of an immigration-induced rise in the industry x specific factor Kx by an amount Δx. A discussion of why industry x labor demand shifts as drawn appears in Dixit and Norman (1980:Figure 2.6). There is one analytic difficulty. Because specific factor rents are not set competitively, it is not clear what portion of industry rents accrue to native rather than immigrant Kx. A sensible assumption is that the division is proportional to the size of the labor demand shift. Then the shaded area is rents that accrue to immigrant Δx. Only the darkly shaded triangle is the immigration surplus. It is positive. TABLE 6-A1 External Returns to Scale Equilibria Equilibrium Diversification Equilibriuma Specialization Equilibriuma IRS price (px) 1/[α(L+L*)]   βL*/L2   CRS price (py) 1   1     U.S. Foreign U.S. Foreign wages (w) 1 1 βL*/L > 1c 1 Per capita welfareb αα(L+L*)α αα(L+L*)α β1-α(L*/L)1-αLα β-α(L*/L)-αLα a) In the U.S. diversification equilibrium, the U.S. produces both goods and the foreign country produces only the constant returns (CRS) good. In the U.S. specialization equilibrium, the U.S. produces the increasing returns (IRS) good and the foreign country produces only the CRS good b) β = α/(1 -α). c) The specialization equilibrium only exists when demand for x is too large to be supplied by a single unspecialized country. See Helpman (1984). Mathematically, the equilibrium only exists for α > L/(L+L*) or, equivalently, βL*/L>1.

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The Immigration Debate: Studies on the Economic, Demographic, and Fiscal Effects of Immigration TABLE 6-A2 Monthly Wage Differentials for Filipinos Across Selected Countries   Males Females   US$ Philippines = 1 US$ Philippines = 1 Occupation Philippines Japan Hong Kong Singapore Saudi Arabia Philippines Japan Hong Kong Singapore Saudi Arabia Technical Salesmen & related 140 4.7 7.0 6.5 3.3           Transport Equipment Operators 134 2.6 2.9 3.0 2.8 103 7.6 2.9   3.4 Housekeeping & related 117 4.7 2.9 2.7 3.7 80 13.9 3.4 8.5 4.1 Bricklayers, Carpenters & other construction workers 111 8.1 7.9 2.9 3.3           Sales Supervisors & Buyers 108 6.4 7.6 9.5 6.1           Chemical Processors & related 104 5.2 4.3 6.0 4.8           Blacksmiths, Toolmakers, Machine-Tool Operators 100 5.9 6.5 6.6 4.7           Machinery Fitters, Assemblers, Precision Instr. Makers 99 4.1 4.3 5.3 4.4           Protective Service Workers 97   2.6 4.9 4.2           Printers & related 91 4.3 3.7 3.6 3.6           Plumbers, Welders, Sheet-metal & Structural Metal Prep. 86 4.2 5.1 4.9 4.6           Tailors, Dressmakers, Sewers, Upholsterers & related 82 10.0 6.9 6.7 4.9 61 8.8 4.3   6.3 Cooks, Waiters, Bartenders & related 75 6.3 6.0 5.6 4.3 38 16.9   9.1 10.0 Building Caretakers, Cleaners & related 69   3.5 3.4 4.1           Transport Conductors 53 5.5 8.5 9.9 7.8           Launderers, Dry-cleaners & Pressers 52 7.8   7.6 7.0           Fishermen 38 6.9 13.7 8.5 11.0         SOURCE: Data were prepared by Edgard Rodriguez. For host countriesdata are from the Philippines Overseas Employment Agency and datefrom the period April–July, 1993. For the Philippines data are fromthe October 1991 Labor Force Survey. Data were converted to currentU.S. dollars using spot exchange rates i.e., there is no PPP correction.The data do not include in-kind transfers such as accommodation.

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