Terms of trade during the first globalization: new evidence, new results

David Chilosi, Giovanni Federico, Antonio Tena-Junguito

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The debates. Did trends or volatility of terms of trade hold back the global periphery? Economists and economic historians have asked this question since the 1950s, when Prebisch and Singer argued that the worsening of terms of trade of peripheral countries from the beginning of the 20th century had been a major cause of underdevelopment. Economists have subjected the Prebisch-Singer’s hypothesis to extensive testing, but their results have been mixed, possibly because they have focused on relative prices of primary products rather than on terms of trade. More recently, since the 1990s, development economists have stressed that volatility of terms of trade, which tends to be comparatively high in countries specializing in the export of a few primary products, is a major source of macroeconomic shocks, which hamper growth. Negative views about the long-term effects of specialization in primary production were also buttressed in the early 2000s by the publication of the pioneering paper by Sachs and Warner on ‘the curse of natural resources’. In the 21st century, terms of trade have attracted renewed interest among economic historians, thanks to Williamson and coauthors’ innovative argument: in the early phase of the ‘first globalization’, before 1870, a ‘terms of trade boom’ in the periphery fostered deindustrialization and specialization in export of primary products, which damaged long-run growth. However, Williamson’s estimates of terms of trade significantly rely on proxies, particularly on the import side, and cover just over twenty countries.

What we do. This article extends the empirical analysis of terms of trade’s trends and volatility during the ‘first globalization’, until World War One. We econometrically analyze new series of terms of trade by polity, covering (almost) the whole world, compiled with data from the Federico-Tena World Trade Historical Database. Our sample includes export and import price indices for twelve countries since 1800, which accounted for over half of world trade in 1850, and 133 countries, including all polities of some economic significance, since 1850. Analyzing so many series separately would be unwieldy and thus we group them, as posited in the literature, by level of development (‘core’ and ‘periphery’), as well as by macro-areas, based on geography and factor endowments. To date, the proximate determinants of trends and volatility have been mostly inferred from visual inspections of movements on the export side. In a first step, we ask whether this focus is warranted by quantifying the contributions of export and import price indices (and, for volatility only, co-variance between them) in driving terms of trade and their volatility. Then, in a second step, we relate our results to available evidence on changes in the composition of trade and in ‘world’ prices, as proxied, as standard in the literature, by British prices.

What we find. We find that there were no common trends in terms of trade, both within the core and within the periphery, while volatility declined everywhere, as price spikes became smaller and less frequent over time. Our decomposition of the proximate determinants of these trends finds that terms of trade were determined mainly by the import side and volatility by the export side. The available evidence provides little support to the hypothesis that there was significant de-industrialization in the periphery, which thus does not emerge as a major determinant of trends in terms of trade or their volatility. Consistent with our trends, the prices of both manufactures and primary products were falling, and so was their volatility. Our results are robust to an extensive battery of checks. They sit uneasily with the view that terms of trade played a crucial role in holding back the development of peripheral countries before World War One. The emergence of a low-volatility regime in the wake of the growth of global commodity markets implies that, in this respect, the first globalization was welfare-enhancing also for the global periphery.