North-South Trade, Unemployment and Growth: What’s the Role of Labor Unions?

We construct a North-South product-cycle model of trade with fully-endogenous growth in which both countries experience unemployment due to union wage bargaining. We find that unilateral Northern trade liberalization reduces growth and increases unemployment in both countries, while unilateral Southern trade liberalization has the opposite effects. We show that the existence of labor unions matters for trade liberalization to have any effect on Northern innovation and worldwide growth. For empirically plausible parameter values, bilateral trade liberalization by equal amounts increases growth and reduces unemployment in both countries. Stronger Northern labor unions hurt both countries by reducing growth and increasing unemployment. However, stronger Southern labor unions exert a positive growth effect for both countries, while decreasing Northern unemployment and increasing Southern unemployment.