Competitiveness vs. Comparative Advantage

This post is in response to the following excellent comment from Stephen Moore, the man who will trounce Ralph Goodale in the next federal election (or at least do better than I did):

April 2007 testimony before the parliamentary committee on International Trade saw Industry Canada, DFAIT reps and others stress the importance of the SPP (Security & Prosperity Partnership) to making sure the “North American platform” is competitive in “global value chains.”

At times they seemed to stress the idea of North America as a global competitor against rising economic blocs like India, China, etc.

So here’s Lee Gill of Industry Canada:

“The security and prosperity partnership thing is part of that [globalization]. As Anthony [Burger] points out, it’s essential that we get our act together within North America so that we can compete with the Chinas of the world, the Indias of the world, in a way that we can both take advantage of our comparative advantages and improve the standard of living of Canadians.”

At the same time, however, Lee Gill of Industry Canada seemed later to point in the opposite direction, stressing connections rather than competition between economic blocs:

“That’s the way we really need to think of the future, in terms of working around the world, working as global supply chains, rather than as an independent economic bloc.”

As a complete layperson, I feel a bit puzzled by all of this: could one of you explain what a “global value chain” is, and also how Canada (and North America) can both compete against China as a separate economic bloc, while at the same time ceasing to think of China as a separate economic bloc, but rather as a link in a “chain”?

Here’s something else Gill said:

“we have to think of ourselves in terms of a North American bloc and we also have to think of ourselves in terms of a world trading bloc.”

Is the issue sectoral? Are we supposed to think of ourselves as “North Americans” in some sectors of the economy and as non-North Americans in others?

Sorry for this uninformed question, but any help you could provide on why the SPP is needed to help North America benefit from “international value chains” would be appreciated.

My understanding is that “global value chains” refer to the division of production processes among countries (i.e. “vertical specialization” between countries as opposed to “vertical integration” within countries). The implication is that we should accept, or perhaps even encourage, the relocation of factories to China and India because they will remain part of “global value chains” that sustain some (unspecified) high-value activity in Canada.

I have met Gill at a couple of conferences and think that he is a good guy. However, the testimony quoted by Stephen reflects an important tension in the conventional economic wisdom.  Is production allocated according to “competitiveness” or “comparative advantage”?

The notion that Canada must cut taxes, deregulate, etc. to successfully compete against other countries for internationally mobile investment contradicts the notion that, under free trade, production will naturally be distributed according to comparative advantage in a mutually beneficial manner (possibly involving “global value chains”). In this latter view, a country becoming more “competitive” will simply drive up its exchange rate by an offsetting amount, bringing things back to the balance determined by comparative advantage.

As Jim Stanford noted in his recent debate with Burger’s office, the “competitiveness” argument assumes a demand-constrained world in which some factors of production (including workers) will be unemployed and some countries can lose from free trade. The “comparative advantage” argument assumes a supply-constrained world in which all factors of production are fully employed and all countries gain from free trade.

There may be legitimate arguments for both views, but they are mutually exclusive. In the American Economic Review (1993), Paul Krugman strongly defended comparative advantage and dismissed competitiveness as “pop internationalism.” Krugman has since revised his position. Jim and I tend to take the view that competitiveness matters and should be strengthened through industrial policy.

The political right wants to have it both ways. Many of the same individuals (possibly including Burger) who use “comparative advantage” to argue that free trade is good and industrial policy is bad also use “competitiveness” to argue for tax cuts, deregulation, etc.

UPDATE (August 22): To answer Stephen’s final question, I cannot speak for Gill, but I think that a sectoral distinction is quite important. “Comparative advantage” is meaningful for natural resources and agricultural products. Due to geography, geology, climate, etc., particular countries are naturally better-suited to producing some commodities than others. This concept is more nebulous for manufacturing and tradable services. Whatever comparative advantages exist in these industries largely reflect man-made infrastructure, training, agglomeration, etc. “Competitiveness” seems to be more relevant in such sectors.