Trade Models: Extensions and Applications Factor Endowment Theory (Heckscher – Ohlin Factor Price Equalization(Samuelson)   Does Factor Endowment Theory Work? Does Factor Price Equalization Happen?

Trade Models: Extensions and Applications Theory of Overlapping Demand Intraindustry Specialization and Trade Dynamic Comparative Advantage Industrial Policy Trade in Services Product Life Cycle Model Supply – Demand Model of Trade Environmental Protection and Costs Transportation Costs

Factor Endowment Theory (Heckscher – Ohlin) Focus on Supply: Technology and input factors Labor Land Capital

Factor Endowment Theory (Heckscher – Ohlin) Assume: everyone uses the same technologies to make things.  Then: a nation has comparative advantage in things that use a lot of its relatively abundant and cheap factor.

Factor Endowment Theory (Heckscher – Ohlin) Also assume: everyone has the same tastes.   Then: A nation will export things that use a lot of its relatively abundant and cheap factor. A nation will import things that use a lot of its relatively scarce and expensive factor.

Factor Price Equalization A nation exports things that use a lot of its relatively abundant and cheap factor. In the exporting country, demand for this abundant factor increases. The wage of the abundant factor increases. In the importing country, where this factor is scarce and expensive, demand for this factor decreases. The wage of the scarce and expensive factor decreases.

Factor Price Equalization The factor’s wage is equalized in the exporting and importing countries. Trade substitutes for factor flows.

Does Factor Endowment Theory Work? Export:Import Ratios Product US Japan FRG UK Technology-intensive Standardized Labor-intensive Services Primary products 1.5 0.4 0.6 5.7 1.1 1.0 0.7 0.0 2.4 0.8 0.3 1.4 1.3 US has relative abundance of scientific workers … and US does export hi – tech things.

Does Factor Price Equalization Theory Work? In US, skilled workers are relatively abundant. TRADE  Rich get richer. Poor get poorer. Globalization disciplines workers Globalization disciplines all factors

Theory of Overlapping Demands Most US trade in manufactures is with other rich nations. Linder: countries with similar incomes have similar tastes and patters of demand. ·    Firms first establish themselves in home market. ·    Firms find foreign markets where demands overlap. 

Intraindustry Trade: Import and Export the “Same” Thing Homogeneous products ·    Transport savings near borders ·    Seasonal reasons Differentiated products ·    Focus on particular product in industry Exploit economies of scale Serve domestic “majority” and overlapping foreign demand

Supply – Demand Model of Trade In the absence of trade, the same good will sell for different prices in different places. An opportunity presents itself: BUY LOW – SELL HIGH

Supply – Demand Model of Trade If the production proceeds under increasing costs Cost and price in the exporting country increases Cost and price in the importing country decreases Cost and price in the two countries converge.

Free trade under increasing costs Transportation costs Free trade under increasing costs No transportation costs United States Auto price ($ thous.) S Canada S F 8 a b c d 6 E 4 D D Autos 6 4 2 2 4 6 Autos exports imports

Free trade under increasing costs Transportation costs Free trade under increasing costs Transportation costs of $2000 per auto United States Auto price ($ thous.) S Canada S F 8 7 g h e f 5 4 E D D Autos 5 4 3 3 4 5 Autos exports imports