The Empirical Investigation of The Kemp-Jones Model: The Case of OECD Countries

This paper analyzes the impact of different production technologies on relative prices of various goods and through them on the pattern of trade in these goods. Perfect capital mobility and differences in technology across countries are assumed, consistent with the Kemp-Jones model. This allows one to focus on labor costs, rather than on both labor and capital costs. The sector-specific unit labor costs for each country (relative to those of other sectors within each country) determine the comparative advantage or disadvantage of each country in trade. These sector- and country-specific relative unit labor costs can be broken down into two components, (i) relative wage rates and (ii) relative labor requirements per unit of output. The latter can be further decomposed into two sub-components, (iii) relative capital requirements per unit of labor and (iv) relative rates of technical progress. The decomposition into these two sub-components is carried out by an econometric estimation of the translog production function for each of 10 traded good sectors (2-digit classification of International Sectoral Data Base, 1970-92) in 14 OECD countries, using 3SLS estimation method. The decomposition of country- and sector-specific unit labor costs results in various empirical findings; two of which are as follows. First, the Ricardian model claims that the relative labor requirements are the key determinant of comparative advantage. The empirical evidence could only confirm this claim for the 1970s. Second, one of the main sources of the poor performance of the Heckscher-Ohlin theorem is widely agreed to be in cross-country differences in relative labor requirements. The decomposition of relative labor requirements into two sub-components indicates that such differences are highly correlated with cross-country differences in relative rates of technical progress in the light industries, but with cross-country differences in relative capital requirements in the heavy industries.