Transcript The Factor-proportions Model

The Factor-Proportions Model
International Trade – Session 3
Daniel TRAÇA
Last session
• In countries with lower productivity, competitiveness in
world markets arises from lower wages.
– The gains from trade mean potential gains for workers.
• The political argument is due to adjustment costs
(specific factors)
– Factors that are specific to import-competing industries will loose
out from trade.
– Those that are specific to exporting industries will be winners.
– But the gains of winners always outweigh the loses of losers.
– Compensating losers is a difficult task!
Incomplete specialization I
The equilibrium with constant returns
•
•
In each sector, workers must be
hired until the marginal worker’s
cost (the wage) is equal to its
marginal product.
w
Workers must be indifferent
between the two sectors
MPLF
w = MPLF = MPLM x P
Recall that P is the relative price of
manufactures
•
•
MPLM x
PAUT
MPLM x
PTRADE
In autarky, the price must equate
the relative marginal product, to
ensure both goods are produced.
If the trade price (of manufactures)
is lower than in autarky, the
country will specialize completely
in Agro/Food
LF
LM
total labor force
Incomplete specialization II
The equilibrium with decreasing returns
• Once again, the equilibrium
entails
w
w = MPLF = MPLM x P
• For any given price (P), we can
find out the employment and
output of Agro/Food and
Manufactures.
• If the trade price (of
manufactures) is lower than in
autarky, the country will
specialize, but not
LF
completely, in Agro/Food
LM
total labor force
Incomplete specialization III
Decreasing returns and the concavity of the PPF
• We can obtain the PPF, for the
case of decreasing returns.
Manuf
– The PPF is concave. The
opportunity cost of Food is
now increasing.
-1/P
-1
Equilibrium:
P = MPLF/MPLM
+1
Slope =
-MPLM / MPLF
• For any price (P), we can
obtain the Relative Supply of
Manuf.
-6
+1
Food
Incomplete specialization III
The gains from trade in the North
•
Manuf
The prices of manufactures rises
in the North,
– Due to its comparative advantage
in manufacturing
-1/Pw
•
Exports
-1/PN
– Effects on consumption of
manufactures depend on income
(+) and substitution effect.
Gains from
trade
Imports
Production of manufactures for
export increases;
•
But there is incomplete
specialization,
– The North still produces some
Food for its own consumption
Food
The Hecksher-Ohlin (HO) model
• 2 sectors: Manuf and Food
• 2 factors: Capital (K) and Labor (L)
– Factors can freely move between Manuf and Food. This mobility
captures long term (no adjustment costs)
• 2 countries: North(N) and South (S);
– Differ in relative abundance of Capital and Labor
The substitutability of factors
T
•
ISOQUANT:
combinations of
inputs that
produce the
same quantity of
the good
The Kapital/Labor ratio (K/L) used
in production depends on the
prices of the factors.
w/r
FF
Food
w/r
L
K/L
The substitutability of factors
K
•
ISOQUANT:
combinations of
inputs that
produce the
same quantity of
the good
Manuf is a Capital Intensive sector.
– It uses a higher ratio of K/L, for any given
factor prices.
w/r
FF
MM
Manuf
Food
w/r1
L
K/L
Concavity of the PPF
• With two factors, and
different factor intensities
the PPF is concave
Manuf
– similarly to decreasing
returns
-1/P1
-1/P2
• For any price, there is
incomplete specialization
P1 >P2
Food
Prices and the real factor-returns
- An intuitive scheme
A rise in the relative price of Manuf (P)
Food output falls; Manuf output expands
Food output decline releases too much Labor (excess supply)
Manuf expansion requires mostly Kapital (excess demand)
Real wage must fall due to excess demand
Kapital rents must rise due to excess supply
All sectors become more labor intensive.
Full employment of Kapital and Labor is preserved.
The factor-price ratio (w/r) and the
relative price of manufacture (P)
• What is the effect of a rise in P
on w/r?
w/r
• An increase in the price of a
good raises the relative factorprice of the factor that is used
intensively in that sector.
– e.g. an increase in the relative
price of Manuf (Kapital
intensive) lower the relative
price of labor (w/r)
SS
P
Prices, relative factor returns and
factor intensities
w/r
MM
FF
w/r2
w/r1
SS
K/L
K/LM2 K/LM1 K/LF2 K/LF1
P2 P1
P
• For any given relative price of goods, there is an equilibrium
relative factor price and a given distribution of factor
intensities in production.
• This is independent of the abundance of resources in the economy.
An interesting theorem (Rybczinsky)
• An increase in Abundance of
Kapital
– The PPF becomes larger, but the
Manuf
M2
change is not parallel:
– Since Manuf is the main user of
Kapital, the difference is relatively
M1
larger in Manuf.
• For the same price, the output of
Manuf rises and that of Food
declines
F2 F1
Food
An interesting theorem (Rybczinsky)
• An increase in the
supply of a factor,
with prices
unchanged, raises the
output of sectors that
use intensively that
factor and lowers the
output of sectors that
do not use intensively
K K M  K F  K M  LM  K F  LF





L
LM  LF
L
L
 M 
 LF  L
•
A rise in L lowers K/L (right-hand side).
•
With given prices, factor intensities (in
square brackets) do not change.
•
Since K/LF < K/LM , employment in
Food (LF/L) must rise, and in Manuf
(LM/L) must fall.
–
Since LM falls and TM= [T/LM]xLM falls,
the production of Manuf must fall
The effects of international trade
demand
P
•
RSS
–
RSW
PS
If the North has more Capital, the
relative supply of Manuf is higher
than in the South.
RSN
•
The autarky price of Manuf (P) is
higher in the South.
–
PW
PN
RD is the same for
both countries and
for the World, as a
whole.
Manuf/Food
Use the Rybczinsky theorem
This means that the South has the
Comparative Advantage in Food.
•
With trade, relative price of Manuf
rises in the North
•
Comparative Advantage arises
because the South is relatively
LABOR ABUNDANT and has
Comparative Advantage in the
LABOR INTENSIVE sectors.
Resource Abundance, Comparative
Advantage and the Pattern of Trade
SOUTH
Relatively Labor Abundant
Specializes in Food
FOOD
Labor Intensive
MANUF
Kapital Intensive
NORTH
Kapital Abundant
Specializes in Manuf
• If technologies are
identical, a country has
comparative advantage in
the sectors that use
relatively INTENSIVELY
the factors that are
relatively ABUNDANT.
Dynamic Comparative Advantage
- Accumulating Skills and Capital
Economic Development
Education, Investment, Infrastructure
Knowledge & R&D
Knowledge Intensive
(Aeronautics)
Skilled Labor
Skilled labor Intensive
(Electronics)
Capital
Capital Intensive
(Machinery)
Labor Unskilled
Unskilled labor Intensive
(Textiles)
Natural Resources
Resource Intensive
(Rice, Oil)
Prices and real factor returns
w/r
MM
FF
w/r1
w/r2
SS
K/L
•
K/LM1 K/LM2 K/LF1 K/LF2
P1 P2
P
All else constant, a higher relative price of a good…
– … means a higher relative factor-price of the factor used intensively in that good
– … and a lower intensity in that factor in both sectors.
•
This has implications for real factor returns:
– Factor intensity  Marginal Product  Factor returns
Factor returns: Prices vs. Factor
abundance
• The HO model establishes a unique relationship between goods’
prices and factor prices.
• The Stolper-Samuelson theorem
– An increase in the relative price of the good raises the real return to the
factor used intensively, and lowers the relative return to the factor not
used intensively
• Changes in P causes lower in K/LM and K/LF,…
• …raising the return to capital and lowering the wage
– In this context, if goods prices are constant, an increase in the
abundance of a given factor does not affect factor returns, it simply
affects the relative output of the goods (remember the Rybczinsky
effect)
Factor abundance and factor prices
in autarky
• Comparing Real Factor Returns in the North, with the
South
– Due to higher Kapital abundance, the North has comparative
advantage in K-intensive goods (Manuf).
– The autarky relative-price of Manuf is lower in the North, than in
the South.
– Kapital intensity in Manuf and Food is higher in the North, than in
the South.
• This is necessary to ensure that the higher abundance of Kapital is
used up.
– Real (Labor) Wages are higher and (Kapital) Rents are lower in
the North, than in the South.
Unfair Competition
•
If the items entering this country in such volumes were better
designed or more attractive, more durable or more efficiently produced,
we would have little reason to object. But the vast majority of imports
sell here primarily because they are cheaper; and they are cheaper for
one reason only - they are made at wages and under working conditions
that would be illegal and intolerable in this country’.
»
Rich
coun
tries
Poor
coun
tries
from the President of American Textile Manufacturers Institute
Abundance in
skilled labor
and capital
High returns for
unskilled labor
Good working
conditions
High unskilled
wages
Poor working
Abundance in
unskilled labor
Low returns for
unskilled labor
conditions
Low unskilled
wages
Unfair Competition and Comparative
Advantage
• Low wage competition is comparative advantage in goods that are
intensive in educated/skill labor for industrialized countries
– Trade creates value because returns to unskilled workers are lower in
developing countries
• The mix between wages and working conditions is mostly market
driven.
– Legal constraints have a cost that depends on how restrictive they are,
relative to market outcomes.
– Part of this cost is borne by workers in the form of unemployment and
lower net wages.
– It is a cost that rich, industrialized societies have accepted to pay to
promote social justice and avoid exploitation.
Summary
• Comparative Advantage (and gains from trade) may arise
from differences in the relative abundance of factors, if
they are used with different intensities across sectors
• Comparative advantage in sectors the used intensively the abundant
factor.
– Changes in factor abundance due to economic development will
affect the country’s comparative advantage.
• Low wages in poor countries are due, in part, to low
capital abundance.
– These low wages are the source of gains from trade and not
unfair competition