1. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 1 Specific Factors and Income Distribution 1.The Specific Factors Model 2.International Trade in the Specific Factors Model 3.Income Distribution and the Gains from Trade 4.The Political Economy of Trade: A Preliminary View 5.Summary 1

2. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 2 1 1.The Specific Factors Model (1).Assumptions of the Model (2).Box: What is a Specific Factor? (3).Production Possibilities (4).Prices, Wages and Labor Allocation (5).Relative Prices and the Distribution of Income 2

3. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 3 1 (1). Assumptions of the Model Imagine an economy.produce two goods: manufactures and food.three factors of production: labor (L), capital (K), and land (T for terrain).perfectly competition 3

4. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 4 1 How much does the economy produce? Production function Q M =Q M (K,L M ), (3-1) Q F =Q F (T,L F ), (3-2) L M +L F =L. (3-3) where Q M Q F : output of manufactures and food K: capital stock T: supply of land L M L F : the labor force employed in manufactures and food 4

5. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 5 1 (2).Box: What is a Specific Factor? A Specific Factor is a factor that is specific to particular uses. e.g. land, capital A mobile factor is a factor that can move between sectors. e.g. labor 5

6. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 6 1 (3) Production Possibilities First, representing the production functions(3-1) and(3-2), Then, putting them together to derive the production possibility frontier. 6

7. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 7 1 Figure 3-1 The Production Function for Manufactures Output, Q m Labor input, L M Q M =Q M (K,L M ) 7

8. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 8 1 Figure 3-2 The Marginal Product of Labor Marginal product of labor, MPL M Labor input, L M MPL M 8

9. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 9 1 Figure 3-3 The Production Possibility Frontier in the Specific Factor Model QFQF LMLM QMQM LFLF PP AA L L Q M =Q M (K,L M ) Q F =Q F (T,L F ) 1 2 3 1 2 3 LM2LM2 QM2QM2 QF2QF2 LF2LF2 9

10. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 10 1 Notice: output of input of output of food labor manufactures MPL F 1 MPL M MPL F /MPL M 1/MPL M 1 So, Slope of production possibilities curve=- MPL F /MPL M 10

11. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 11 1 (4).Prices, Wages and Labor Allocation LMLM LFLF 1 w1w1 Wage rate P F × MPL F P M × MPL M LM1LM1 LF1LF1 Figure 3-4 the allocation of labor 11

12. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 12 1 MPL M ×P M =w (3-4) MPL F ×P F =w (3-5) L M +L F =L (3-6) Equations(3-4)and(3-5)imply that MPL M ×P M = MPL F ×P F =w or, - MPL F /MPL M =-P M /P F (3-7) 12

13. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 13 1 Figure 3-5 Production in the Specific Factors Model QMQM QFQF QF1QF1 QM1QM1 1 Slope=-(P M /P F ) 1 P 13

14. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 14 1 Figure 3-6 An Equal Proportional Increase in the Prices of Manufactures and Food LMLM LFLF 2 w1w1 Wage rate P F 2 × MPL F P M 1 × MPL M P F 1 × MPL F P M 2 × MPL F w2w2 1 P F increases 10%P M increases 10% w 10% wage increase 14

15. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 15 1 Figure 3-7 A Rise in the Price of Manufactures w1w1 Wage rate rises by less than 7% LMLM LFLF 1 Wage rate P F 1 × MPL F P M 1 xMP L M P M 2 xMP L M w2w2 Amount of labor shifted from food to manufactures 2 15 w1w1

16. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 16 1 Figure 3-8 The Response of Output to a Change in the Relative Price of Manufactures QFQF QMQM Slope=-(P M /P F ) 1 Slope=-(P M /P F ) 2 1 2 QF1QF1 QF2QF2 QM1QM1 QM2QM2 16

17. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 17 1 Figure 3-9 Determination of Relative Prices RSRS RDRD 1 P M /P F (P M /P F ) 1 (Q M /Q F ) 1 QM/QFQM/QF 17

18. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 18 1 Question: Explain how the opening of trade can lead to an increase in money wages in a capital-abundant country if capital is immobile between sectors. Does this mean that labor is necessarily better off with trade? 18

19. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 19 1 (5).Relative Prices and the Distribution of Income If relative price rise by 10%, wage rate rise only by 5% then workers: uncertainty owners of capital: definitely better off owners of land: definitely worse off 19

20. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 20 1 2.International Trade in the Specific Factors Model (1).Resources and Relative Supply (2).Trade and Relative Prices (3).The Pattern of Trade 20

21. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 21 1 (1).Resources and Relative Supply LMLM LFLF 1 Wage rate, w P F 1 × MPL F P M 1 xMP L M P M 2 xMP L M w Amount of labor shifted from food to manufactures 2 w K Figure 3-10 Changing the Capital Stock 21

22. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 22 1 (2).Trade and Relative Prices P M /P F (P M /P F ) A (P M /P F ) WORL D (P M /P F ) J Q M /Q F RD WORL D RS J RS WORL D RS A Figure 3-11 Trade and Relative Prices 22

23. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 23 1 (3).The Pattern of Trade P M ×D M +P F ×D F =P M ×Q M +P F ×Q F (3-8) Rearranging: D F -Q F =(P M /P F )×(Q M -D M ) (3-9) DFQFDFQF QF1QF1 QM1QM1 DMQMDMQM 1 P Budget constraint Figure 3-12 The Budget Constraint for a Trading Economy 23

24. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 24 1 Figure 3-13 Trading Equilibrium QFQF QFQF QFJQFJ QMQM QMQM DFJDFJ DMJDMJ QMJQMJ QFAQFA DFADFA QMAQMA DMADMA (a) Japan(b) America Japanese budget constraint American budget constraint 24

25. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 25 1 3.Income Distribution and the Gains from Trade Trade benefits the factor that is specific to the export sector of each country but hurts the factor specific to the import-competing sectors, with ambiguous effects on mobile factors. 25

26. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 26 1 Figure 3-14 Trade Expands the Economys Consumption Possibilities DFQFDFQF QF1QF1 QM1QM1 DMQMDMQM 1 P Budget constraint 2 26

27. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 27 1 4.The Political Economy of Trade: A Preliminary View (1).Optimal Trade Policy Box: Specific Factors and the Beginnings of Trade Theory (2).Income Distribution and Trade Politics 27

28. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 28 1 (1).Optimal Trade Policy Three main reasons: Its not specific Its always better to allow trade and compensate those who are hurt by it Those who stand to lose are typically better organized 28

29. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 29 1 (2).Income Distribution and Trade Politics Typically, those who gain from trade in any particular product are a much less concentrated, informed, and organized group than those who lose. 29

30. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 30 1 5.Summary This chapter builds upon the insig-hts fro m chapter 2 by developing tra-de models which allow countries to p-roduce goods w hen production requires more than one fac tor of production. 30

31. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 31 1 One important reason for this add-ition to the model is that this more general framew ork highlights the eff-ects of trade on inco me distribution. 31

32. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 32 1 The first model presented includes facto rs of production which are spec-ific to the p roduction of each of two goods. Then, a more general model is intr-oduce d, with this latter model allow-ing for both mobile and specific fac-tors of production. 32

33. INTERNATIONAL ECONOMICS 03/01/20 COPY RIGHT 33 1 This extension provides an even ri-cher a nalysis of the income distribu-tion effects o f trade. These models set the stage for an initial discussion of the political economy of trad e and for justifying economists support of the principl-es of free trade among nations. 33