Chinese Economicsand the Legacy ofXiaokai Yang

Dr He-ling Shi and Dr Yongsheng Zhang

Presented to: New Thinking about Global Challenges10-11 October 2011Berlin, Umweltforum

Germany

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Legacy of Xiaokai Yang

A new framework A research agenda: specialisation, division of labour,

evolution of economic structures (network), institutions,and etc

A group of people with common vision Achievement: make neoclassical economics a special

case

However Optimization and Equilibrium – multiple equilibrium Mathematics – in its more sophisticated way + intuition Representative agents – for simplicity, probably

collaborate with ABM Uncertainty – evolutionary game theory approach

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Inframarginal approach – keyelements Consumer-producer – What to consume

and what to produce is a choice variable Increasing returns to specialization and

division of labour (Adam Smith) - Convexityin production at individual level

Transaction costs in exchange (RonaldCoase) – either an iceberg-type transactioncost or an endogenized transaction costbased on information asymmetry

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Inframarginal approach – keyelements Gains (or losses) from individual and

national trade

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Inframarginal approach – keyelements Corner solutions – some variables are

equal to zero in optimization, which leadsto discontinuously jump of economic

structures (topological changes) Multiple equilibrium and General

equilibrium – the combination ofcompatible corner solutions couldgenerate multiple equilibrium; amongthese, the structure which maximizesper capita utility is a general equilibirum

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Two illustrative structures

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A B

C

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A toy model 2 individuals (A and B) – ex ante identical 2 commodities (x and y) – all necessities Two alternative exchange patterns with

different level of division of labour Autarky: both A and B self-supply x and y –

which is technologically inefficient buttransactionally (zero) efficient (no coordinationproblem)

Division of labour: A and B specializes in theproduction of x and y, respectively andexchange in a market place – which istechnologically efficient but transactionallyinefficient (e.g. coordination problem)

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Static equilibrium

Both Autarky and Division of Labour could bean equilibrium – therefore, 2 equilibrium

The structure which generates the higher utilityturns out to be the dominant equilibrium – wecall this structure as the general equilibrium

Neoclassical economics, with its completeseparation of consumer and producer, is aSPECIAL CASE of this more generalframework

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Comparative statics

With the improvement in transactionefficiency (reduction in transaction cost) Markets emerge to substitute for autarky – the

emergence of new market

Extensions of the model The variety of goods (either final good,

intermediate good, or both) increases – theemergence of new product

The roundaboutness (vertical layers of productionchain) increases – the emergence of newtechnology

Professional middleman to facilitate marketexchange – the emergence of new profession

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Evolution of market structures

A B

A B

C

A B

CD

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Dynamic equilibrium

Learning-by-doing effect will speed upthe accumulation of the knowledge,foster the economies of specialization,and therefore promote division of labour

Repeated market exchange (reputation)could reduce transaction costs andtherefore promote specialisation anddivision of labour

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New thinking on international trade

Ricardian and Heckscher-Ohlin: trade isdriven by comparative advantage anddifferential endowments across countries

New trade theories predominantly rely onthe scale effects (IRS) – its existence isdebatable.

Endogenous comparative advantage(ENCA) results from ex post productivitydifferences across ex ante identicalagents who choose different productionpatterns

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New thinking on economic growth

Solow growth model relies on theaccumulation of capital and labour

Endogenous growth theories mainly relyon the scale effects (IRS) – its existenceis debatable.

Growth is driven by the deepening ofspecialisation and division of labour(Adam Smith and Allen Young) Market economy, new product, technology,

and profession Chinese experience

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New thinking on globalization andinequality Globalization breaks the national

boundary and promote internationaldivision of labour in production

Those sectors which engage ininternational division of labour gain; whilethose sectors which are left over lose –which increases income disparity

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An illustrative example:

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New thinking on financial crisis With the increase in network size, the

overall risk of break-down willexponentially increase (although thereliability of per transaction increases)

The negative impacts of network break-down will also increase with the networksize which normally associated withdeeper division of labour

Financial crisis exemplifies a networkbreak-down and the resulting massunemployment is a side effect ofspecialisation

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New thinking on carbon mitigationpolicy Shi and Zhang (2011) How Could Carbon Mitigation Promote

Economic Development?

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Introduction

This paper takes the observation thatGHG (eg CO2) is the main culprit for globalwarming which leads to catastrophicnatural disasters – although a consensusis yet to be reached.

The current debate in Australia was towhat extent the Australian could stand the“sufferings” of higher energy price due tothe introduction of carbon price in July2012 and the policy options to mitigate thisnegative impact on social groups($29/tone of CO2)

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Introduction

The perceived benefits of carbon price areregarded as purely coming from thereduction of GHG and the associatednatural disasters.

This paper is going to challenge this view byarguing that a properly designed carbontax/subsidy could not only reduce GHG butalso promote economic growth – one stonekills two birds, if the following condition issatisfied: the low-carbon technology has the potential for

deeper specialisation and division of labour

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Some examples

Electricity generation: alternativetechnologies include renewable energyresources (wind, solar, tide, geothermal,and etc.)

Automobile: alternative technologiesinclude petrol + battery hybrid, hydrogen,and etc.

These alternative technologies involvesmuch longer production chain andtherefore the potential for specialisationand division of labour

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Intuitions

The choice of fossil-based technology isoptimum without taking into account itsnegative side effects of carbon emission –which exhibits the feature of externality

A properly designed policy – such astax/subsidy could induce the market to adoptalternative technologies which emit lowerGHG

The adoption of new technologies and marketcompetition will then promote (a) technologicalinnovation, and (b) institutional innovationthrough specialization and division of labour –promoting economic growth and reducingGHG

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Literature

This paper is loosely related to twoliteratures Technological innovation: “induced

technological change” - Hicks (1932), Porterand van der Linde (1995), Wing (2003), andAcemoglu, et. Al (2009)

Institutional innovation: “big push” -Rosenstein-Rodan (1943), Murphy-Shleifer-Vishny (1989), and Yamada (1999)

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Specification of the model

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Carbon emission and utility function

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Caveats of the current model

Single generation and timeless – no timediscount

No heterogeneous preference – identicalindividual

Complete information

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Topological structures of the model

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Illustration of 4 structures

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Structure A Structure B

Structure C Structure D

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Comparison of A and B

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One option is to use carbonprice/subsidy

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Comparison of C and A

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Comparison of A and D

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Policy implications

Without proper carbon mitigation policy, marketsystem may fail to adopt a low carbontechnology (unless each individual changes herutility function by taking into account thedisastrous impacts of carbon emission)

A carbon tax/subsidy will induce producers toreduce the high carbon production and switch tolow carbon production

Government policy is a catalyzer to promotefurther division of labour via technologicalinnovation and institutional innovation

Ultimately, the equilibrium structure will beevolved to a self-sustainable Structure D – lowcarbon structure with no carbon tax/subsidy