Why the factors prices may not be equalized across countries

Reference no: EM13981389

A. Multiple goods in the Ricardian Model.

Suppose all the assumptions of the model hold and you are given the following data:

Goods	Unit Labor Requirements Home Country a_Li(i = 1,.....,6)	Unit Labor Requirements Foreign Country a^*_LI(i = 1,.....,6)
1	2	24
2	12	108
3	8	48
4	15	30
5	22	11
6	35	7

(A.i) Fill in the blank column by calculating the relative productivity of labor in the home country for each good.

(A.ii) Suppose the relative wage rate (w /w* ) is equal to 1/4. Which products will the home country specialize in? Which products will the foreign country specialize ill?

(A.iii) What if the relative wage rate increased to 1? What would be the resulting pattern of trade? What goods will each country specialize in and export?

(A.iv) If the wage rate remained at 1/4 (so we're back again at (A.ii)), and there are now transportation costs and these have significantly increased, say, because of increases in fuel prices. How could this increase potentially affect (a) the principle of comparative advantage, (b) production of goods produced in each country, and (c) the pattern of trade.

B. Stopler-Samuelson Theorem.

Suppose there is a competitive economy with 2 factor production and constant unit labor requirements. If so then the following conditions must hold:

P^a_C = a_LCw + a_TCr.
P^a_w = a_LWW + a_rwr.

(B.i) If P^a_C = 50, a_LC = a_TC = 1 , and P^a_W = 75, a_LW = 1, a_rw = 2 are the parameters for the above equations, use the two equations to solve for equilibrium wage(w) and rental ( r) rates. Show your work.

(B.ii) Given the unit factor requirements, which good is labor intensive and which one is land intensive? Exnlain your reasoning. The commodities are cheese and wine.

(B.iii) Suppose the price of cheese increased from 50 to 60 (that is PCa is now equal to 60). What are the new equilibrium wage and rental rates? Make sense of your results.

(B.iv) State the Stopler-Samuelson Theorem.

C. Heckscher-Ohlin Model.

Suppose all the assumptions behind the model apply: 2 countries (Home and Foreign), 2 goods (food and cloths), 2 factors of production (labor and land), and each country has the same tastes, the same technology, and increasing costs of production. Also there are competitive markets factors in each country and industry and the supply of factors are fixed for each country.

Moreover, assume the following:

(1.) The land-labor ratio to produce a Unit if food (t_f = T_F/L_F) is greater than it is to produce a unit of cloth (t_c = T_c/L_c ) in both countries, and

(2.) The ratio of total land to total labor (t= T/L) in the Home country is greater than it is in the foreign country(t*).

Given the above information, answer the following questions.

(C.i) In a graph of both countries' production possibility (PPF) curves, with food on the vertical axis and cloth on the horizontal, show how the two differ.

(C.ii) Which country has the higher price of cloth relative to food? That is compare P^a_C/P^a_F to P*^a_C/P*^a_F. Explain your answer.

(C.iii) In which country is the wage (w) relative to the price of land (the rental rate, r), lower? Why? Explain our answer when you compare the ratio w / r to w*/r*.

(C.iv) Which country has a comparative advantage in food? In cloth?

(C.v) What happens to the production of each good in each country when moving from autarky to trade between the two. What is the pattern of trade?

(C.vi) What happens to the ratio of commodity prices (the price of cloth relative to food) between the two countries? That is, compare the world equilibrium price under trade to each country's price under autarky.

(C.vii) As a result of trade between the Home country and the Foreign country, what happens to the ratio of factor prices in each country? Give an intuitive explanation for your results. That is, base your explanation on what occurs in each country, from what it was doing before trade and what happens when there is trade.

D. Factor Price Equalization. Give four reasons why the factors prices may not be equalized across countries or each one, give a brief explanation and/or illustration of why it may prevent the factor price equalization theorem from holding.

Reference no: EM13981389

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