Factor Market Barriers are Trade Barriers: Gains From Trade in 1992

The European Community's economic integration by 1992 is predicted to have large economic benefits. According to traditional trade theory, the gains will come only with permanent resource migration and significant factor price changes (since in principle all trade barriers have already been removed). Yet, it seems unlikely that the 1992 reforms will be completed, if they do indeed result in factor movements large enough to substantially alter factor rewards. This paper presents a more optimistic view. It argues that factor market integration can result in economic gains, even without capital and labor migration. The basic argument is simple. For some types of goods, it is cheaper to conduct trade on an intra-firm basis, rather than an inter-firm basis (for instance roughly half of US imports are intra-firm, Helleiner [1981]). In such industries, any factor market barrier that raises the cost of foreign control of local firms also raises the cost of intra-firm trade. Consequently, removing such barriers can lead to gains from trade. The 1.0. trade literature points out that intra-firm trade requires direct foreign control which need not involve direct foreign investment (Helpman and Krugman [19851). Therefore, 1992 can logically lead to gains from additional intra-firm trade, with little additional capital or labor migration.