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Foreign country
MPLC=1. MPLW=1
Advantage advantage
Competitive advantage in wheat (opportunity cost
MPLC=2. MPLW=4
Relative price P
Before trade
Production possibility frontier (PPF): budget constraint, straight line, assume the MPL
are constant constant slope
PPF slope = -
MPL(C )
MPL(W ) =-1/2 (OPPORTUNITITY COST OF WHEAT, PRICE)
Before trade
After trade
real wage (wheat)= W/PW=(Pc*MPLc)/PW=3/2 wheat
real wage (cloth)= W/Pc=(Pc*MPLc)/Pc=MPLC=1 cloth
lower productivity - lower wage - sell competitive price
although low than home country, still higher than before
other ways to increase wages:
-technology and productivity increase
e.g. China and India per capital income increase
higher productivity, higher wages
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P(W ) MPL(W )
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=
>1
P(C ) MPL(C)
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wage in wheat> wage in cloth, fully specialized in wheat
change in consumption
relative price of wheat =2/3 (1/2 before) -- opportunity cost of wheat 2/3 1 unit of
wheat exchange to 2/3 unit of cloth more than before
consumption possibility
Trade equilibrium
Relative price of each good is the same
Amount of each good countries want to trade is equal
gains from trade:
-higher consumption possibilities
-higher indifference curve
Patterns of trade
homes export and imports are equal when valued in the same unit
Lecture 2 SR model: The specific-factors model: gains and losses from trade
Ricardian model:
gains from trade for a country as a whole
only one factor of production (productivity)
patterns of trade
cross-country wage differentials and the evolution of wages
fails to:
distributional effects of trade within a country
determine winners and losers
specific-factors model (land is specific to agriculture, capital is specific to manufacturers):
explain who gains and who loses from trade (since relative price changes).
Overall gain: benefits exceed the losses
-true in SR, but not LR;
-Richard is LR
Model assumption:
Manufacture: workers+ capital
Agriculture: workers + land
Earnings of Specific factor (fixed): e.g. land, capital. More sensitive since stuck in the SR
Earnings of mobile factor: offset losses by seeking employment in other industries
MPL( A)
P( A)
MPL( M ) = P (M )
W=MPLM*PM= MPLA*PA
Home country
Capital intensive
Before trade: lower relative price to manufacture goods
After trade: higher manufacture price in home, lower than foreign
Foreign country
Labor intensive
Before trade: lower relative price to manufacture goods
After trade: higher manufacture price in home, lower than foreign
Before trade:
Production constraint
No trade: Production =consumption =A
After trade:
low price of manufacture, export manufacturer, import agriculture, relative price of manufacture
increases. Slope is steeper.
Overall gain from trade: U2-U1
production: B
consumption: C
Effect on the wage: assume price of manufactures increases, price of agriculture doesnt
change. Wage increase. The same result assume price of agriculture decreases.
Effect on real wage:
Labor demand: More workers, MPL decreases, lower wage, downward sloping
Equal wage interception equilibrium wage + allocation of workers.
Wage is higher for both industry.
More workers in M, less workers in A
Nominal wage: PA <W<PM
Real wage:
W/P(A): increase
W/P(M): W<P*MPLM, real wage decreases in terms of manufacture.
ambiguous effect
Depends on consumption pattern:
spends most money on manufacture worse off
spend on agriculture better off
Unemployment: trade adjustment assistance (TAA), no unemployment
unemployment is the macro phenomena affected by business cycle (temporary)
find new jobs in export industry (depend on labour market, labour skills)
Real life: trade leads to unemployment for import industry
Earnings of capital and land
manufacture price increase,
wage in manufacture increases,
labor shift from agriculture to manufacture,
MPK(m) increases, MPK(a) decreases
Rental calculation:
1.
Earning of land:
R(land)=P(a)*MPK(a), As MPTA and PA remains unchanged, RT and the real land rental,
RT/PA falls.
for P(a), real rental on land in terms of agricultural products has decreasedlandowners cannot
buy as much agricultural products (for ex. food)
for P(m) As PM has increased, landowners cannot buy as much of the manufactured good
either.
General equation:
e.g. Pm increases by 10%, Pa unchanged
nominal wage increase 5%
capital rental incease 17.5%
land rental decrease 5%
General result:
International trade
increase in the relative price of an industrys output
specific factors in export industries gain, increase the real rental earned by the factor specific to that industry
specific factors in importing industries lose: decrease the real rental of factors specific to other industries.
Mobile factors (such as labor) : offset losses from changes in relative prices by seeking employment in other sectors and so changes in wages are less extreme.
shoe industry is labor intensive: for same rental, shoes hire more workers, larger demand
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Assumptions:
Only want to see factor difference influence on trade
factors move freely between industries, wage and rental are the same between industries
full employment/capital condition
same consumers
in reality: reversal of factor intensities( factor intensive is different from countries)
Home country
abundant in capital (more capital per unit of labor)
Before trade
Foreign country
abundant in labor (more labor per unit of capital)
home country: capital intensive --low opportunity cost of computers -- low relative
price of computers flat slope
home country, bias to production of computers
foreign country: labor intensive high opportunity cost of computers high relative
price of computers steep slope
home produce more computers and fewer shoes export computers
After trade:
After trade:
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consumption line
consume at consumption C, produce at point B
trade triangle: triangle connects points B and C
trade triangle:
same dimension as home country (same height and width)
Pattern of trade:
Move along PPF
Home country exports computers, the good that uses their abundant factor of
production intensively capital.
Effects of trade on factor prices
More larbors and capital in computer industry.
relative demand: weighted average of the labor-capital ratio in each industry
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an increase in PC:
and decrease in PC
magnification effect:
trade change relative price larger change in factors
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both the labor and capital contents of net exports were positive for US
trade surplus
net exporter in capital: capital intensive
Measure the factor abundance
compare countrys share of that factor with its share of the world GDP
share of a factor of countrys GDP > share of countrys GDP/world GDP, the country is abundant in that factor
labor
country GDP >
country GDP
world GDP
laborproductivity
>
country GDP
country GDP
world GDP
if the country is abundant in one factor, the share of GDP is larger than share of country GDP
New version of H-O test: sign test
If a country is abundant in an effective factor, then the factors content in net export should be positive.
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After trade
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No change
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S
S
S
S
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LR equilibrium
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Inter-industry trade
Perfect competition
Homogeneous goods
Richardian model differences in technology
Heckscher-ohlin model: factor endowments
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With trade
assume home and foreign are exactly the same:
-number of consumers
-technology and cost curves
-number of firms in the no-trade equilibrium
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Have trade
firms make loss in the SR exit N decreases --D/N shifts to the right still more
than non-trade case slope of d3 (flatter than d1, stepper than d3)
no trade: A
have trade: C
Comparison:
LR trade with/without trade comparison
- more firms: 2NT>NA (more variety)
-existing firms produce a higher quantity: Q3>Q1
-lower price: PW<PA (since AC decreases, pass to consumers)
-when all firms lower their prices, some firms exit the market, the remaining firms
expand their output, lowering their average costs through increasing returns to scale.
-gains from trade in the LR:
1. more variety (some local firms exist, but consumers can buy other countries
products)
2. lower price
loss in SR:
adjustment costs in the SR, since local firms are driven out, unemployment in SR
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IIT=
IIT higher, more important intra-industry trade (more difference between import and export more difference the products)
e.g. IIT=100%, an equal amount of the good is imported and exported, IIT is very important
IIT=0%, the good is either imported or exported, but not both
Gravity equation of trade:
Monopolistic competition model + IRS larger countries will tend to trade more
Trade =B
GDP 1GDP2
dist
Border effect (B): factors affect trade (much larger within a country)
-Tariffs
-Quotas
-Geographic: share the common land or not
-Cultural
-Other administrative rules and regulations
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Without outsourcing
With outsourcing
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application:
wage and number of skilled labor increase in US and UK, means the demand shift to right
-outsourcing lead to decrease in demand for unskilled labors
-skill-biased technological increase the demand for skilled labor
- increase in relative demand for skilled labor (absolute number will fall for both skilled and unskilled)
-increases the demand for skilled labor in foreign
-after outsourcing, relative wage of skilled increases in both countries
(not occur in HO model)
nonproduction workers = skilled workers
Fall in price of components
Foreign improves its productivity in components fall in price of components -- improve home country terms of trade better off
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terms of trade (export good price/import goods price) export R&D terms of trade (R&D prices/component price)
R&D reduces -- terms of trade reduces -- selling its export less or pay more for its imports
Final good output Y3 is still higher than output without trade
Outsourcing in service
Skill intensive
Example: customer service of flight, mobile, taxi companies
Firms accounting
Technical assistance computer debugging
Assumption 2 is wrong:
-cost of skilled service activities < cost of outsourcing relatively unskilled manufacturing activities
-communication infrastructure > physical infrastructure
-India has competitive advantages in service activities
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tariff export supply curve facing the home country shifts up by t supply is perfectly
elastic (foreign exporters still receive Pw) -- domestic consumers need to pay more
(Pw+t) import reduce from M1 to M2encourages increase domestic supply (S1 to
S2) MC of production increases from Pw to Pw+t domestic price is Pw+t domestic
price equals international price home domestic demand D2M2=D2-S2
less elastic foreign supply foreign suppliers share tariff-- price received by
foreign exporters: Pw reduced to P*-- international and home price: P*+t (increase
less than t) import decreases domestic demand decreases domestic supply
increases
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2. politics reason
3. tariff can change the world price foreign exporters reduce price good price increases less than tariff tariff is ahred by foreign
exporters -- get welfare benefit for large import country
Import quotas: limit on the amount of goods a country can import
Maltifibre Arrangement (MFA): allow industrialized countries to restrict imports of textile and apparel products from developing countries.
Small importing country
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Topic 8: trade policy II: export subsidies in agriculture and high-tech industries
Different forms of aid received by farmers:
Export subsidies
Production subsidies
Other domestic farm support programs (loans, purchase of surpluses)
-keep world price low hurts farmers in developing countries
-keep domestic price high hurt domestic consumers
import countries can use countervailing tariffs (retaliatory tariffs): similar to anti-dumping duties
why use subsidy: protect local farmers
-Farmer is the important group
-agriculture is the low income group
Other forms of domestic support:
Tax incentives
Food aid programs
Production subsidies
export subsidy: payment to a firm for every unit exported
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home welfare:
Increase in Producer surplus: +(a+b), real supply curve is still the blue
Consumer surplus is unaffected since quantity demanded is unaffected.
Government cost of the subsidy: -(a+b+c)
Net welfare effect on Home: -c
Production subsidy is better than export subsidy to help farmers
Cant use trade barriers to protect labors/unemployment. Better to create more jobs.
Targeting principle/first-best policy: Lower DWL
WTO considers eliminate production subsidies and other forms of domestic support for agriculture than about export subsidies
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