Theorems & Definitions

Question 1

Heckscher‐Ohlin Theorem

Answer 1

A capital‐abundant country will produce more of, and export, the capital‐intensive industry

Question 2

Factor Price Equality (FPE)

Answer 2

If countries product both goods, trade equalizes the goods prices and factor input prices

• HO model implication
• PE occurs both countries produce both goods, technologies are identical and free trade means that goods prices are the same in both economies.

Question 3

Stolper‐Samuelson Theorem (“price‐wage arbitrage”)

Answer 3

A rise in the price of a good raises the real return of the more important factor in that industry. It lowers the real return of the other factor.
1.A decline in the price of apparel results in a shifting out of the apparel dollar‐value isoquant
2.Because of the gap between the new apparel isoquant and the old dollar‐value isocost line, producing apparel is no longer profitable.These negative profits induce a reallocation of resources away from apparel and towards chemicals
3.Capital and labor flee apparel to chemicals in proportion to how they were used in that industry, i.e., apparel sheds relatively more labor than capital as it downsizes. Since labor is relatively plentiful, its reward gets bid down. Because capital is relatively scarce, it’s reward gets bid up.
•counter‐clockwise rotation in the dollar‐value isocost line

Question 4

Rybczynski Theorem (“development paths”)

Answer 4

At constant prices, an increase in the endowment of one factor increases the output of the industry that uses that factor intensively and reduces the output of the other industry.
-It says that as a country accumulates capital it will increase the output of the industry for which that factor is important (chemicals) and will decrease the output of the industry for which that factor is unimportant (apparel). Note that this outcome assumes no change in prices as a results of factor accumulation.

Question 5

Factor Price Insensitivity

Answer 5

All else equal, a country’s factor accumulation within a cone does not lead to any change in factor rewards.
-Even though an increase in the supply of capital in a country puts downward pressure on the relative return to capital, the concomitant shift in output towards the chemical industry creates and exactly offsetting increase in the demand for capital, thereby pushing relative wages right back up to where they started.

Question 6

Unit Isocost Line

Answer 6

represents all bundles of K and L that can be purchased for $1 at prevailing factor prices .

Question 7

Unit (value) Isoquant Line

Answer 7

all combinations of K and L that earn $1/ that yield the same value of output

Question 8

Indifference Curve

Answer 8

demonstrates the combinations of two goods that a person/economy can consume and be equally satisfied

Question 9

Rental on Capital/Land

Answer 9

the rental on machines/land reflects what these factors of production earn during a period when in use by respective industries