TRADE REFORM: Wage Inequality and Globalization 2

Although the results presented in Section II address the overall impact of trade on trade and labor, they do not analyze the distributional consequences of trade reform for skilled and unskilled labor. This is an issue which has been extensively studied for the United States and other developed countries, but much less so for developing countries. In this section, we focus on Mexico’s experience with trade reform. Mexico is a particularly interesting case because wage inequality had been declining in the decades prior to reform in 1985. Following the trade reform, however, the ratio of skilled to unskilled wages increased dramatically.
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In a world with mobile labor, the impact of trade reform on wage inequality should be analyzed in a general equilibrium context. Under the standard general equilibrium framework of the Heckscher-Ohlin model, trade reform could be associated with increasing inequality if opening up to trade increases the price of skill-intensive goods (the Stolper-Samuelson Theorem). In the Mexican context, this would imply one of two possible hypotheses: (1) Mexico has a comparative advantage in producing goods which are intensive in the use of skilled labor or (2) Mexico protected its labor intensive sectors prior to the trade reform.

Hanson and Harrison (forthcoming) present evidence which is consistent with the second hypothesis. They show that the most protected sectors in 1984, prior to the 1985 reform, were those sectors intensive in the use of unskilled labor. In particular, they find a negative and statistically significant correlation between skill intensity in 1984 and tariff protection. In addition, tariff declines were highest in sectors which were intensive in the use of unskilled labor. The positive correlation between high skill intensity in 1984 and the magnitude of trade reform–as measured by tariff reductions–is also statistically significant at the 5 percent level.

Evidence for other developing countries also suggests a pattern of protection at odds with comparative advantage. Currie and Harrison (1997) find that protection in Morocco was significantly higher in sectors with a higher share of unskilled workers, such as textiles and clothing. In Morocco, textile and clothing firms were at the same time highly protected and the most export oriented in the manufacturing subsector. Firms made significant profit margins on the protected domestic market and also exported abroad. Under trade reform, these firms expanded their export sales and reallocated employment.

The evidence for Mexico is consistent with the Stolper Samuelson theorem. Tariff reductions were greatest in sectors with were more intensive in the use of unskilled labor. In a small country which cannot affect world prices, changes in tariffs are an ideal measure of price changes. However, other factors–which are not incorporated in a Heckscher-Ohlin framework–could also have affected the relative returns to skill in Mexico. Alternative explanations for increasing wage inequality in Mexico include outsourcing, skill-biased technological change, falling real minimum wages, and the decline of union strength. Feenstra and Hanson (1997), for example, argue that one source of wage inequality in Mexico is the fact that labor demand by incoming foreign firms is skewed towards skilled workers

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