1. Supplementary notes
Chapter 4

2. Heckscher-Ohlin Model
Resource endowment as the key to comparative advantage
Two factors of production: Labor and Land
The PPF is no longer a straight line. The opportunity cost in production increases as more of a product is produced. Why?
More than one factor of production
Possibility of substitution between the factors

3. Factor Intensity and Factor Abundance
Assumption. Cloth is labor intensive and Food is land intensive.
Assumption. Home is labor abundant, Foreign is land abundant: L/T > L*/ T*
Assumption. The resource endowment is the only difference in the two countries. They share the same technology, same preferences, etc.
In the textbook,
the two factors are LABOR and LAND.
the two goods are CLOTH and FOOD.
the two countries are HOME and FOREIGN.

4. Factor Prices, Input Choices

5. Factor Prices and Goods Prices

6. Factor Prices, Goods Prices and Input Choices
Suppose the price of cloth relative to the price of food is calculated as (PC/PF)1. If we also know the direct relationship between relative goods prices and relative factor prices given by the SS curve, then we can determine relative factor prices--the wage/rental ratio. Once we determine the wage/rental ratio and determine the CC and FF curves, we can determine the land to labor ratio in both the cloth and food industries.
In sum, given goods prices, we can determine not only factor prices, but factor levels in the Heckscher-Ohlin model.

7. Relative Prices before and after trade

8. Equilibrium Production equilibrium Consumption equilibrium
Occurs where the relative price and the slope of the PPF (the opportunity cost) are equal
Consumption equilibrium
Occurs where the relative price and the slope of an indifference curve (consumers’ relative evaluation) are equal

9. Equilibrium in autarky
Occurs where the PPF and an indifference curve are tangent to each other and thus have the same slope.
The equilibrium relative price is determined by the tangent line.

10. Autarky
A: Home
B: Foreign
S: Cloth
T: Food

11. The Heckscher-Ohlin Theorem
A country has comparative advantage in the product which makes intensive use of productive factors with which it is abundantly endowed with.
Home  labor abundant  CA in cloth which is labor intensive
Foreign  land abundant  CA in food which is land intensive

12. Trade Equilibrium Home Foreign Initial condition RP of C low high
Comp Adv. C F
With Trade
RP of C rises falls
Production of C increases decreases
Production of F decreases increases

13. Trade Equilibrium

14. The Factor Price Equalization Theorem
H F
Initial
Wage low high
Rental high low
With trade
Wage rises falls
Rental falls rises
Free trade leads to the international equalization of individual factor prices.
Wages are equalized across countries even if there is no international mobility of labor.

15. Why factor prices are NOT equalized internationally?
List the assumptions of the HO model
Which of them are crucial for the factor price equalization theorem?

16. The Stolper-Samuelson Theorem
In Home, abundant in labor, wages rise while rentals fall with trade. This benefits workers (the abundant factor) and hurts land owners (the scarce factor).
The rise in wage is greater than the increase in the price of cloth. Thus, real income of workers increases in either good.
The fall in rental is greater than the fall in the price of food. Thus, real income of capital owners declines in either good.

17. Political Economy of Trade
Who will be more likely to oppose free trade?
the owners of scarce factors of production
the producers of import-competing products
the consumers of export products
Who will be free traders?
the owners of abundant factors of production
the producers of export products
the consumers of import products
In Home,
Anti-trader will be:
Land owners
Food producers (both employers and employees)
Cloth consumers
Free traders are:
Workers
Cloth producers
Food consumers

18. Gains from trade
In the HO model, some gain and some lose from trade. Does the nation as whole gain or lose from trade? How to show it?

19. Trade and Income Distribution
In the U.S.
High skill labor – abundant factor
Low skill labor – scarce factor
The wage distribution has become more unequal since the late 70s.
This is consistent with the Stolper-Samuelson Theorem. Does it mean that trade is responsible for the above trend?

20. The Leontief Paradox