North-South Trade Liberalization and Economic Welfare

We consider a general equilibrium model of a developing economy (the South) that opens to trade with a developed economy (the North). The southern economy is characterized by open urban unemployment and rural-urban migration, a competitive agricultural sector and a monopolistically competitive manufacturing sector. Hence, there is potential for both inter- and intra-industry trade to arise on liberalization, in addition to distortionary effects of duality. Southern comparative advantage in agriculture may arise from the labor market distortion and the basis for intra-industry trade is love for variety. We characterize various configurations of the trade pattern, and the resulting welfare consequences of opening to trade in this context. We illustrate a new mechanism under which in some circumstances it may be possible for trade liberalization to lower economic welfare in the South.