Poverty Trap and Inferior Goods in a Dynamic Heckscher-Ohlin Model

We extend the dynamic Heckscher-Ohlin model in Bond et al. (2009) and show that if the labor intensive good is inferior, then there may exist multiple steady states in autarky and poverty trap can arise. Poverty traps for the world economy, in the form of Pareto dominated steady states, are also shown to exist. We show that the opening of trade can have the e¤ect of pulling the initially poorer country out of a poverty trap, with both countries having steady state capital stocks exceeding the autarky level. However, trade can also pull an initially richer country into a poverty trap, with both countries having lower steady state capital stocks in free trade than they would in autarky. These possibilities are a sharp contrast with dynamic Heckscher-Ohlin models with normality in consumption, where the country with the higher (lower) capital stock than the other will reach the steady state where the level of welfare is higher (lower) than at the autarkic steady state.