One Size Fits All? Specialization, Trade and Income Inequality

Previous research has uncovered precious little support for Heckscher-Ohlin trade theory. This paper demonstrates that those efforts focus on an overly restrictive version of the model. Indeed, strong evidence that output is a function of endowments can be found if we recognize that countries with sufficiently disparate endowments specialize in different subsets of goods. This paper develops a technique for differentiating specialization from an equilibrium in which all countries produce the same goods. It also demonstrates that the industry aggregates used in previous studies hide a substantial degree of cross-country price and input intensity heterogeneity, violating the assumptions of the model and rendering previous results difficult to interpret. When traditional aggregates are corrected to account for this heterogeneity, support for specialization increases. Finally, this paper contributes to the current debate on trade and wages by illustrating that in 1990 the US was sufficiently capital abundant to have an output mix distinct from that of by low wage, labor abundant countries. This specialization mitigates the ability of cheap imports to adversely affect US workers, casting doubt on the argument that international trade is raising US income inequality.