In the debate over the effects of price and income on the demand for developing countries' exports, some argue that they suffered a secular deterioration in their terms of trade and `immiserizing growth' and that both price and income elasticities of their export demand are small. Others point to the success of the newly industrializing economies (NIEs), whose successful outward- oriented development strategies post-war period call into question such `elasticity pessimism'. Some empirical studies have found high income elasticities of demand for LDC exports while others have found in favour of the `small country' assumption, with no significant income effects and effectively infinite price elasticities.

In Discussion Paper No. 671, Vito A Muscatelli, T G Srinivasan and Research Fellow David Vines construct a two-stage generalized error-correction model in which excess demand and supply affect both export prices and volumes in the short run. Applying this model to Hong Kong manufactures exports, they estimate the long- run demand and supply relationships, correct them for serial correlation and endogeneity, and then impose these long-run properties to estimate the model's short-run dynamics. In contrast to Riedel's results derived from single-equation models, they find significant long-run price and income effects on export demand; but their estimated long-run price and unit labour cost elasticities for export supply almost exactly match Riedel's results.

Muscatelli, Srinivasan and Vines maintain that their high estimated income elasticities probably conceal effects omitted from simple aggregate export demand and supply models: disproportionately rapid growth in a country's productive capacity vis-à-vis world capacity will automatically raise the proportion of world demand dedicated to its exports, which appears as a `high' income elasticity of demand for its exports. Their modification to take account of `product-cycle' effects shows that NIEs may begin as low-technology, low-wage economies and grow through technology transfer from the developed economies. The external effects of active promotion of exports as part of the NIEs' outward-oriented development strategies may account for their increased penetration of world markets and therefore contribute to their large income elasticities, while their small price elasticity of export demand may reflect the fact that conventional models subsume various other non-price effects within the measured effects of income on export demand.

Demand and Supply Factors in the Determination of NIE Exports: A Simultaneous Error-Correction Model for Hong Kong Exports
Vito A Muscatelli, T G Srinivasan and David Vines

Discussion Paper No. 671, June 1992 (IT)