innovation is not a characteristic of sectors, but an institutional feature of countries.
The paper is also related to the formal literature on IPRs, imitation and wel-
fare, that goes back to the product cycle Ricardian model of Krugman (1979). A
number of papers used his approach to study several aspects of the issue, including
the effects of licensing or FDI. The earlier contributions highlighted the negative
effects of strong IPRs as they would restrict the efficient allocation of resources.10
More recently, the view that IPRs can foster growth and stimulate the diffusion
of technology has gained more consensus.11 Abstracting from product cycles, this
paper offers a complementary view based on cost-saving innovations that yields new
results in favor of IPRs protection. An important virtue of this approach is that it
incorporates the idea that technologies can be inappropriate for developing countries
and that IPRs protection can play a role in attracting better technologies. These
important considerations are absent in most of the product-cycle literature.12 Fur-
ther, these models do not usually deal with the effects of IPRs under different trade
regimes. Another strand of literature focuses on the welfare effects of the monopoly
distortion introduced by patent laws in a trading environment.13 In comparison, this
paper shows that different regulations across countries generate a new inefficiency,
innovation diversion, that should be taken into account in designing an optimal
system of international protection of intellectual property.
Finally, this analysis is complementary to Matsuyama (2000). He develops a
Ricardian model where the North has a comparative advantage in high income elas-
ticity goods. In his set up, a uniform and exogenous increase of world productivity
results in a terms-of-trade deterioration for the South, because it raises the demand
for the good in which the North has a comparative advantage. But Matsuyama’s
paper does not study the effects of the trade on technical progress, which is the main
theme here.
The rest of the paper is organized as follows. Section 2 presents the basic two-
country model, solves for the equilibrium under autarky and free trade and derives
the two main results, that trade integration with a country where IPRs are weak
can lead to divergence in income levels and slow down world growth. The analysis
10Among these models are Helpman (1993), Glass and Saggi (1995) and, more recently, Dinopou-
Ios and Segerstrom (2003).
11Among these model, see Lai (1998), Yang and Maskus (2001) and Antras (2002).
12See, for example, Kremer (2002), Sachs (1999), Diwan and Rodrik (1991), and Acemoglu and
Zilibotti (2002).
13See Chin and Grossman (1990), Deardorff (1992) and recently Grossman and Lai (2002).