Cost Reduction, Quality Improvement, and Distribution

In chapter 1 I propose a trade and growth model in which the transition from autarky to trade is endogenous. It uses a tractable two-country trade and growth model that yields closed-form solutions for the entire system including the timing of the transition. The transition is guaranteed as long as the two countries have different steady-state growth rates. If countries have identical fundamentals, but different initial conditions, the transition from autarky to trade might or might not occur. In addition this chapter provides new insight into the effects of trading frictions on growth. Non-prohibitive trading frictions have transitory effects on growth but do not affect the long-run growth rate. The tractability of the framework allows for a full analysis of the welfare effects of trading frictions. A reduction in non-prohibitive trading frictions is always welfare improving, the removal of prohibitive frictions has ambiguous effects.;In chapter 2 I analyze the effects of alternative distribution technologies on endogenous innovation, in particular cost reduction and quality improvement. Quality improvement and cost reduction have long been treated as identical ways of changing the quality adjusted price of a good; with quality improvement working by increasing the denominator, and cost reduction reducing the numerator. However, the data tells a different story. Firms engage in both quality improvement and cost reduction. In addition, there are significant cross country differences in R&D expenditure shares. The aim of this paper is to show that under realistic conditions, cost reduction and quality improvement are inherently different. When distribution is modeled using the standard 'iceberg' formulation the usual isomorphism is present. When the distribution technology is modeled using a per-unit formulation cost reduction can no longer be a source of long-run growth while quality improvement can.;In chapter 3 I develop a model of endogenous innovation where firms undertake in two in-house R&D activities; cost reduction and quality improvement. I use a modern Schumpeterian growth model so that the scale effect is absent. The purpose of this is two-fold. First, it yields a more complete picture of growth. The steady-state growth rates of cost reduction and quality improvement are jointly determined. There are numerous steady-states, firms may engage in both R&D activities, they may engage in only one, or they might do neither. Second, the introduction of an irreducible unit cost (distribution costs) generates interesting results. Similar to the result of chapter 2; absent technical progress in distribution, cost reduction cannot be a source of long-run growth, while quality improvement can. Introducing technical progress in distribution allows for cost reduction in the steady-state, in fact in a steady-state with cost reduction, the rate of cost reduction must equal the rate of technical progress in distribution.;The common theme throughout all chapters is the interaction between growth and trading frictions. In chapter 1, growth renders prohibitive trading frictions non-prohibitive which generates an endogenous transition from autarky to trade. In chapter 2 I show that the assumptions regarding trading frictions (per-unit vs iceberg) dramatically affects the results for growth. In chapter 3 I show that if there are any irreducible per-unit trading frictions, economies will devote an increasing share of R&D expenditures towards quality improvement.