Preface

Few economic problems have attracted as much attention of the world's leading economists and stirred up such lively debates between them as the transfer problem. Classical writers such as David Ricardo, David Hume and others, had heated debates among contemporaries on the consequences of balance-of-payment disequilibria (a temporary transfer). The most famous debate, however, was, the discussion between John Maynard Keynes and Bertil Ohlin, which led to a first systematic treatment of the consequences of transfers as such. This debate was also mostly directed at the causes and consequences of possible balance-of-payment disequilibria.

The early attention for balance-of-payment problems following a transfer is somewhat in contrast with today's interests in the transfer problem, which is mostly concerned with welfare effects. For example, the welfare effects associated with development assistance, see Jan Tinbergen (1976), who regards development aid from the North to the South as a means of obtaining more equality between nations. Moreover, he is convinced that development aid is necessary to increase welfare levels in the developing world. Needless to say, there is no general agreement between economists on the influence of development aid on welfare. Nor is there agreement on whether or not development assistance is necessary in the first place, in order to put a developing country on a higher path to development. There are not only disagreements and discussions on the practical consequences of transfers, but also disagreements between modern theorists on the effects of transfers and how to model them. This is illustrated, for example, in the sometimes heated debate involving Graciela Chichilnisky, Jagdish Bhagwati and T.N. Srinivasan, Jan Willem Gunning and others.

Most textbooks on international trade theory contain a section on the transfer problem. It is often used to illustrate the fact that income adjustments in international economic relations are very important, or that terms-of-trade adjustments are only part of the adjustment process. Furthermore, the transfer problem can easily be analyzed in Keynesian-type models, such as the Mundell-Fleming model. Most textbooks use the 1929 debate between Keynes and Ohlin only to illustrate differences between the two main channels of adjustment: price adjustments and income adjustments.

To summarize, the transfer problem, by simply restating the famous debate between Keynes and Ohlin, ignores the fact that since the 1980's the literature on international transfers and international trade theory has witnessed a small revolution. Not only the analytical tools to analyze the problems have changed, but the issues themselves have changed.

Duality theory is a very powerful tool to reformulate various topics of importance in the literature on economic development and international economic theory. Most importantly, using duality theory it is possible to analyze the welfare consequences of various phenomena and economic policies in a systematic way. This enables us to make explicit welfare comparisons. The general equilibrium nature of duality theory makes it also very clear that the traditional partial equilibrium insights on the transfer problem can be misleading.

The "new" trade theory stresses the fact that the world is also characterized by increasing returns to scale and imperfect competition. It is by now well-known, that these developments in international trade theory imply that some of the "old" problems have to be re-analyzed. This also holds, as we will show, for the transfer problem. Economic welfare and economic development can be influenced in many ways. For example, by economic distortions, waste of valuable resources, rent-seeking, etc. The main focus of this book is how these aspects influence the welfare effects of transfers.

We do not expect the reader to have a thorough knowledge of international trade theory, but some knowledge of the basics results in international economics is necessary. Moreover, we expect the reader to know intermediate microeconomics, since we will frequently use microeconomics to explain our results. A short refresher course on the most important concepts is offered in the mathematical appendix. This appendix is also useful to get acquainted with our notation.

The plan of the book is as follows. Chapter 1 gives a brief overview of the history of the transfer problem and some information on transfer flows. It highlights the fact that it was traditionally considered to be a problem of balance-of-payments adjustments. Chapter 2 summarizes the discussion on German war reparation payments between Keynes and Ohlin in 1929. It is important from an historical point of view, as the disagreement between Keynes and Ohlin paved the way for a systematic treatment of the transfer problem. One could argue that the modern literature on transfers takes this discussion as a starting point. Chapter 3 presents the core of this book. It not only illustrates that the transfer problem is not a problem in the sense of Keynes, but also introduces the main analytical tools for this book. Most chapters are relatively self-contained, but we advice the reader always to read chapter 3 before reading any of the other analytical chapters, because the conclusions serve as a benchmark for the results developed in other chapters. Chapter 4 generalizes the findings of chapter 3. The conclusions of chapters 3 and 4 change, in general, if distortions, such as tariffs or rent-seeking, are present. This is analyzed in chapter 5. In chapter 6 it is shown that, most surprisingly and maybe not intuitively clear at first, transfer paradoxes are possible in a perfectly competitive Walrasian-stable world with normal goods if a third country (the bystander) is introduced. Chapters 7 and 8 generalize the results of the earlier chapters in a number of ways. Does it matter, for instance, if aid is given by multilateral agencies? Or does it matter that, in practice, development aid is often given in the form of tied aid? Chapter 9 analyzes imperfect competition and economies-of-scale, also in combination with tied aid. It is shown that welfare is not only influenced by income and price effects, but also by a "love-of-variety" effect. Furthermore, and most interestingly, we show that profits are possible in this context even in equilibrium if aid is tied to a specific sector or commodity. Finally, transfers are frequently given to alleviate balance-of-payments disequilibria (often by means of foreign exchange). In fact, this is basically the role of the International Monetary Fund. Moreover, aid is given to put developing countries on a higher path of development. Both issues require that a dynamic framework must be introduced to analyze the consequences of aid. This is done in chapter 10.

The following people were helpful at various stages in writing this book: Filip Abraham, Peter van Bergeijk, Andries Brandsma, Willem Buiter, John Chipman, Richard Gigengack, Catrinus Jepma, Murray Kemp, Jan Pen, Zvi Safra, Teun Schmidt, Albert Schweinberger, Georg Tillman, Edward Tower, Jean-Marie Viaene and Casper de Vries. They commented on parts of the manuscript or on earlier work we wrote on the transfer problem. We also received useful comments from seminar and conference participants at the University of Melbourne, New York University, Purdue University, Erasmus University Rotterdam, University of Groningen, University of Leuven, Econometric Society European Meeting (Muenchen 1989), European Association of Development Institutes (Oslo, 1990, and Berlin, 1993) and European Economic Association (Dublin, 1992).

We are grateful for receiving financial support from the IDE foundation and the Erasmus University Rotterdam Trust Fund. Finally, we would like to thank Cornell University for its hospitality.

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