class3

Question 1

International trade has strong effects on the distribution of income within a country because:

Answer 1

• Resources can’t move immediately or without cost from one industry to another
• Industries differ in the factors of production they demand in the LR

Question 2

Specific Factors Model: Assumptions

Answer 2

• Perfect competition prevails in all markets
• 2 goods are produced
• One mobile factor of production between sectors: LABOR
• 2 specific factors (cant change from on industry to another)

Question 3

four-quadrant diagram

Answer 3

Lower right quadrant shows the production function for cloth
Upper left quadrant shows the corresponding production function for food.
Lower left quadrant indicates the allocation of labor.
Upper right quadrant indicates the combinations of cloth and food that can be produced.

Question 4

Supply and demand of labor

Answer 4

Fixed exogenously at L. MPLf/MPLc
Labor demand curve: W = P*MPL

Question 5

Equilibrium wage

Answer 5

Wc=Wf
PcMPLc=PfMPLf
MPLf/MPLc = -Pc/Pf
-Pc/Pf is also the pt on the PPF that the economy produces

Question 6

Allocation of labor

Answer 6

Labor is allocated so that the value of its marginal product (P*MPL) is the same in the 2 sectors

Question 7

Equal proportional changes in prices

Answer 7

When both prices change in the same proportion, no real changes occur.
Real wages and incomes are unaffected

Question 8

Change in relative prices (increase in only one sector)

Answer 8

When only Pc rises; labor shifts from the food sector to the cloth sector and the output of c rises while output of f decreases

Wages doesn’t rise as much as Pc since c employment increases and thus the marginal product of labor in c falls.

Question 9

Determination of relative prices (before trade)

Answer 9

Are determined by relative supply and demand on the goods market.

Relative demand curve is given exogenously

Question 10

Effect of increase Pc on wage

Answer 10

Real wage of c workers (MPL = w/Pc) decreases; capital owners’ income goes up because c prices have increased
Pc/Pf increases; profits increase

Real wage in terms of cloth decreases
Real wage in terms of food increases
Net effect depends on the relative importance of cloth and food in workers’ consumption

Question 11

Wages

Answer 11

w/Pc * Lc

where w/Pc = Real wage

Question 12

Changes in relative prices

Answer 12

The factor specific to the sector whose relative price increases is better off, vice-versa
The change in welfare for the mobile factor is ambiguous

Question 13

Supply curves with trade

Answer 13

Relative supply world curve is different from the domestic one as technology and resources can be different

Question 14

Increase vs decrease in relative price

Answer 14

Increase in relative price induces the economy to produce more of it.
Will export the product
When trading, an economy exports the good whose relative price has increased and imports the good whose relative price has decreased.

Question 15

Trade benefits

Answer 15

Trade benefits the factors that are specific to the exporting sectors but hurts the factors that are specific to the import-competing sectors

Question 16

Budget constraint

Answer 16

Tangent to the PPF, so that the economy can always afford to consume what it produces

Question 17

Losses from trade

Answer 17

Immobile factors in the import-competing sector lose most
Lower-skilled workers have hard time transitioning from the import-competing sector to exports sectors

Question 18

Trade and unemployment

Answer 18

No evidence of a positive correlation between unemployment and imports for the US.
The best way to reduce unemployment us by adopting macroeconomic policies to help the economy recover, not by adopting trade protection

Question 19

Migration

Answer 19

Is the movement of labor across countries. Location decisions are based on wage differentials.
If there are no obstacles to labor migration, workers move from home to foreign until the purchasing power of wages (=MPL) is equal across countries

Immigration into foreign increases the supply of labor and decreases the real wage: workers in foreign earn less. Landowners in foreign gain from the inflow of workers decreasing real wages and increasing output

Total world output goes up; better use of labor; put workers unproductive where they will be more productive

Question 20

Income distribution effects arise because

Answer 20

1. Factors of production can’t move costlessly and quickly from one industry to another
2. changes in an economy’s output mix have different effects on the demand for different factors of production

Question 21

Why does international trade affects the distribution of income

Answer 21

Because factors specific to export sectors in each country gain from trade, while factors specific to import-competing sector lose

Question 22

Where labor migrates?

Answer 22

To countries with higher labor productivity and higher real wages, where labor is scarce