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Markets, Externalities, and the Dynamic Gains of Openness

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  • Alexander Monge-Naranjo
Abstract
Inflows of foreign knowledge are the key for developing countries to catch up with the world technology frontier. In this paper, I construct a simple tractable model to analyze (a) the incentives of foreign firms to bring their know-how to a developing country and (b) the incentives of domestic firms to invest in their own know-how, given the exposure to foreign ideas and competition. The model embeds two diffusion mechanisms typically considered separately in the literature: externalities and markets. The dynamic gains of openness can be substantial under either mechanism, but their relative preponderance significantly changes the dynamic implications of openness. Notably, openness allows developing countries to fully catch up only when market transactions fully dominate the diffusion of ideas. While externalities can also push domestic firms to upgrade their productivity, the equilibrium exposure to ideas in the country remains below the frontier and domestic firms never catch up.

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  • Alexander Monge-Naranjo, 2016. "Markets, Externalities, and the Dynamic Gains of Openness," Working Papers 2016-23, Federal Reserve Bank of St. Louis.
    • Handle: RePEc:fip:fedlwp:2016-023
    DOI: 10.20955/wp.2016.023
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    More about this item

    Keywords

    Know-how; Diffusion; Internalization; Compensating differentials;
    All these keywords.

    JEL classification:

    • F23 - International Economics - - International Factor Movements and International Business - - - Multinational Firms; International Business
    • F43 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Economic Growth of Open Economies
    • O19 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - International Linkages to Development; Role of International Organizations
    • O33 - Economic Development, Innovation, Technological Change, and Growth - - Innovation; Research and Development; Technological Change; Intellectual Property Rights - - - Technological Change: Choices and Consequences; Diffusion Processes
    • O34 - Economic Development, Innovation, Technological Change, and Growth - - Innovation; Research and Development; Technological Change; Intellectual Property Rights - - - Intellectual Property and Intellectual Capital
    • O41 - Economic Development, Innovation, Technological Change, and Growth - - Economic Growth and Aggregate Productivity - - - One, Two, and Multisector Growth Models

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