Transcript class3

Welcome to
EC 382: International
Economics
By: Dr. Jacqueline Khorassani
Week Three
1
Week Three: Class One
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Tuesday, September 18
14:10-15:00
AC 202
I ordered 5 copies of the textbook for the
library
I did not receive any questions from you on
Study Guide 3
– If you don’t ask, I assume you know

Expect an in class assignment tomorrow
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Definitions
 Brazil
is more Capital
abundant than China if
K/L in Brazil>K/L in China
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Definition
 Production
of computers is more
capital intensive than production
of shoes if
–Production of computers requires
a higher K/L than production of
shoes.
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Factor-Proportions
Theorem


Given a set of assumptions (outlined
on page 62 of your book, ask me if
you don’t understand the
assumptions)
Brazil has comparative advantage over
China in production of computers if
1. Production of computers is relatively
capital intensive and
2. Brazil is a relatively capital abundant
nation
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Now let’s work through
an example
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K/L in US =1/2
K/L in Germany = 1/1
Which nation is labor abundant?
– US, because it has a higher L/K ratio
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According to Factor-Proportions
Theorem, US has comparative
advantage in production of goods and
Labor
service that are ______
intensive.
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Now let’ continue with
the example
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Pre-trade, which nation has a
higher (Wage/price of capital)
ratio?
– Germany
– Because labor is relatively more
scarce in Germany
– Suppose (W/price of capital) ratio in
Germany = 5/5=1
– Suppose (W/price of capital) ratio in
US = 2/4 = 0.5
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After trade
US will specialize in production of
Labor
______
intensive goods and
services.
 Production of labor intensive goods
increase
in US will _______
while production
of capital intensive in goods in
increase
Germany will______.

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 What
does this do to demand
for labor? For capital in US?
Wages? Price of capital?
–Demand for labor in the US will go
up
_____.
 Wage
up
will go __________
–from 2 to 2.5.
–Demand for capital in the US will
go __________.
Down
 Price
Down
of capital will go __________
–from 4 to 3.5.
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
The opposite happens in Germany
– Wage will go down from 5 to 4.2
and the price of capital will go up
from 5 to 5.9

Eventually, W/price of capital in
both nations will be the same.
– 0.71

This is referred to as factor-price
equalization
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Summary of ratios
Pre-trade:
W/price of
capital
Post-trade:
W/price of
capital
US
Germany
2/4= 0.5
5/5 =1
2.5/3.5 = 0.71 4.2/5.9 = 0.71
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 Suppose
Germany is labor
scarce and capital abundant
 According to Factor
Proportions Theory,
Germany is likely to have
comparative advantage in
Capital intensive goods
________
 Germany will specialize in
Capital
production of ______ intensive
goods.
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 Production
of labor
intensive goods in
Germany will go _______
down
while production of capital
intensive in goods in
up
Germany will go ______.
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
What does this do to demand for
labor? For capital in Germany?
– Demand for labor will go down,
– Income of labor will go down.
– Demand for capital will go up,
– Income of the owners of the capital
will go up

This is the Stopler-Samuelson
Theorem
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
Is US capital or labor abundant?
– Capital abundant
According to Factor-Proportions
Theorem, US must be exporting
Capital
________
intensive goods and
importing _________intensive
Labor
goods.
 Leontief fund that US industries
with trade surplus were more labor
intensive than US industries with
trade deficits  Paradox
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How do you explain the
paradox?
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Some goods are land (natural
resource) intensive (not the same of
capital intensive)
Protectionism
Physical/human capital
Technology intensive goods
How about when we import and
export the same goods?
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Definitions
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Specific factors of production can’t
move between production of cars and
bread
Examples?
Mobile factors of production can
move between production of cars and
bread
Examples?
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The Specific-Factors
Model
 If
the U.S. is well endowed
with the specific factor used to
produce cars, it will have
comparative advantage in
production of cars.
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International Economics

Week Three- Class 2
– Wednesday, September 19
– 11:10-12:00 PM
– Tyndall
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I received questions

Is it ok to use capital abundant in place of
capital intensive?
– No, they mean different things

Would you penalize one for using rent as
price of capital.
– No but I did not use the term rent because
– In economics price of capital is interest rate
– Rent is price of land (natural resources)
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I received a question on
Table 3.4, Page 69

Over the years,
– Per capita GDP has grown more sharply in South
Korea than in India
– The ratio of capital to worker has gone up more
sharply in South Korea than in India
– Degree of openness (measured by (imports +
exports)/GDP) has grown more sharply in South
Korea than in India.
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I received a request
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To not give you an In Class Assignment
today
– Sorry, can’t do, because
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If you don’t keep up with class, after a while you will
not benefit from the class
It is better to learn a little at the time.
Most of this material builds upon the previous stuff
– At the end of semester, I will drop the bottom
one or two assignment from the course grade.
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In Class Assignment

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I will show you 3 multiple choice
questions
On 1/2 sheet of a paper
Print your name
And put your answers down
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Question 1

If Dutch labor can produce 3 soda pops in a
day or 5 yogurt cones in a day, while British
labor can produce 2 soda pops and 4 yogurt
cones, then __________ has a comparative
advantage in yogurt cones.
–
–
–
–
A) England
B) both England and the Netherlands
C) the Netherlands
D) There is not enough information to answer
this question.
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Question 2
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Which of the following is not a factor
of production that the U.S. is abundant
in?
– A) human capital
– B) unskilled labor
– C) skilled labor
– D) physical capital
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Question 3

International trade tends to:
– A) have no effect on factor prices.
– B) cause the price of the scarce factor to
rise and the price of the abundant factor
to fall.
– C) cause all factor prices to fall.
– D) cause the price of the scarce factor to
fall and the price of the abundant factor
to rise.
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Definitions (Chapter 4)

Intra-industry trade: Export and
import within the same industry or
product group.
– Example

Inter-industry trade: Some
industries export and others import.
– Example
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Can factor proportions
theory explain the Intraindustry trade?
 No
–Because that implies that a
nation has comparative
advantage as well as
comparative disadvantage in
production of the same product
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What is the Intraindustry Trade Index?

It is used to compare different industries
based on their amount of intra-industry
trading
Intraindustry Trade Index =1

X -M
X +M
X value of exports
M value of imports
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Intraindustry Trade Index =1-
X -M
X +M
 Example
–US imports $100,000 worth of
autos and exports 30,000 worth
of autos. What is ITI in the US
auto industry?
–ITI = 1- (70,000/130,000) =
0.46
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Intraindustry Trade Index =1
X -M
X +M
What if ITI was zero?
– Country is either only exporting or only
importing
– No intra-industry trade
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How can ITI be 1?
– The country’s exports = its imports
– 100% intra-industry trade
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Weaknesses of ITI

Values of intraindustry trade depend on
how a particular industry or product
group is defined.
– More broadly defined groups will show
more intraindustry trade.
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Example: pants
– More narrowly defined groups will show
less intraindustry trade.
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Example: dress pants and jeans
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Definitions
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Homogenous goods are those that are
identical (consumers can not
differentiate between them)
– Examples
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Differentiated goods are those that are
similar but not identical
– Examples
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Why is there intraindustry trade in
homogeneous goods?
1. Location
 Transportation cost
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It is cheaper for City X to import cement from
County A than buy it from City Y
City Y will exports cement to Country C
B imports and exports cement
Country
A
City X
Country B
City
Y
County
C
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International Economics
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Week Three- Day 3
– Wednesday, September 19
– 15:10-16:00
– AC 201
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Let’s review this morning’s ICA
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ICA1: Question 1

If Dutch labor can produce 3 soda pops in a day or
5 yogurt cones in a day, while British labor can
produce 2 soda pops and 4 yogurt cones, then
__________ has a comparative advantage in yogurt
cones.
–
–
–
–

A) England
B) both England and the Netherlands
C) the Netherlands
D) There is not enough information to answer this
question.
Answer: A
– Opportunity cost of 1 yogurt in England =2/4= 0.5 sodas
– Opportunity cost of 1 yogurt in Netherlands = 3/5 = 0.6
sodas
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Question 2

Which of the following is not a factor
of production that the U.S. is abundant
in?
– A) human capital
– B) unskilled labor
– C) skilled labor
– D) physical capital

Answer: B
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Question 3

International trade tends to:
– A) have no effect on factor prices.
– B) cause the price of the scarce factor to rise
and the price of the abundant factor to fall.
– C) cause all factor prices to fall.
– D) cause the price of the scarce factor to fall and
the price of the abundant factor to rise.

Answer: D
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Why is there intraindustry
trade in homogeneous goods?
2. Joint products
 Country
A imports goods +
insurance (service)
 Country A exports other goods +
insurance (service)
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Why is there intraindustry
trade in homogeneous goods?
3. Entrepot trade
– A computer producer in country X has a
worldwide distribution center in country
Y
Country
X
Country
Y
Y imports
and
exports the
same
computers
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Why is there intraindustry trade in
homogeneous goods?
4.
Re-export trade.
– Goods are imported into a country,
and sometime later the same goods
are subjected to a small
transformation and exported to
another country.

Example: Goods are imported, sorted,
repackaged and exported to another
country to the Far East.
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Explanations of Intraindustry Trade
in Homogeneous Products
5.
Seasonal items
 Country A may only produce
strawberries in summer
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Export strawberries in summer
Import strawberries in winter
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Types of differentiated
products
1.
Horizontally differentiated
products have the same price
but slightly different
characteristics
– Examples?

Candy bars
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Types of differentiated
products
2. Vertically differentiated
products have different prices
and different characteristics
–Examples?
 autos
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Why would a nation export
and import differentiated
goods?

Price differentials (vertically
differentiated products)
– Economies of scale


What is it?
Average cost goes down as you
increase production
– Specialization
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Why would a nation export and
import differentiated goods?
Example
Compact cars are popular in Japan
Japan increases its production of compact
cars
Average cost of producing compact cars
declines in Japan
Japan gains a comparative advantage in
production of compact cars
Japan exports compact cars
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Why would a nation export
and import differentiated
goods?
Big cars are popular in the US
US increases its production of big cars
Average cost of producing big cars declines
in US
US gains a comparative advantage in
production of big cars
US exports big cars
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The Product Cycle Model


Explains why we may turn from
exporting a product to importing that
product over time.
From the time a new high tech
product is developed to the time in
becomes widely popular, it goes
through 3 stages
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Example

Stage 1
– Computers are just introduced to the
market in the US
– They are expensive
– Need high-income markets
– R&D and production improvements
require highly skilled workers.
– US may export computers to other
developed countries
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Stage 2
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Production of computers becomes
more standardized.
Production may move to other
developed countries instead of
exporting to those countries.
US may begin to import computers
from the new production country.
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Stage 3
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Production of computers has become
standardized enough that move
process to developing countries to
utilize unskilled labor to lower costs.
US becomes importer.
US moves production focus to new
products and cycle starts over.
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The Product Cycle Model
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The theory of overlapping
demands
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Domestic producers produce goods
targeted at tastes and income levels of
the domestic market.
Goods are exported to other countries
with similar tastes and income levels.
Linder states that high-income countries
will trade with other high-income
countries since income determines
general tastes/preferences.
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The Welfare Implication
of Intraindustry Trade

Welfare is improved from increased
choice and competition.
– Prices tend to be lower with trade in
differentiated products.
– Quality tends to be higher.
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The Welfare Implication
of Intraindustry Trade
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Reduces monopoly power of
domestic firms
Firms can produce at higher levels
realizing economies of scale leading
to lower prices.
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