week 3

Question 1

draw a diagram for trade liberalisation by a small country in HOS model

Answer 1

look at notes

Question 2

what are the key points when trade liberalisation occur under HOS model for a small country

Answer 2

Diversification:
- production remains diversified under FT

welfare effects:

• aggregate welfare will increase
• there are winners and losers

Rest of the World:
- exports thier comparative advantage good to the small country

potential pareto improvement

Question 3

what are the winners and losers of trade liberalisation in a small country: HOS
assume relative price Ky/Ly > Kx/Lx)
good X is labour intensive (give

Answer 3

IF Ky/Ly > Kx/Lx in production
- if px/py increases
- factor used to produce Good X will increase as well
good X is labour intensive (given)
this leads to real wages for good x and good Y increases

however real returns for capital will decrease

whilst the real return of capital will decrease

Question 4

what is the stopler-smauelson theorem?

Answer 4

a rise in the relative price of a good increase the real price of the factor used intensively in its production and decreases the real price of the other factor

Question 5

what are the two observation on the SS Theorem

Answer 5

1. real wages of good X and good Y move in the same direction
   - all workers would benefit of their individial utility functions
2. Mechanism:
   real factors prices change because there is a mismatch between input mixes of expanding and contracting industries

Question 6

what is the real wage

Answer 6

W/px and W/py

Question 7

what is the inuition of the mechanism of the SS theorm

Answer 7

if we assume that industry X is expanding (Y is contracting)

so there is increase in relative price for Good X –> where labour and capital move from industry Y to inudstry X

• so industry X will absorb L faster than Y realeasing it creating a labour shortage
• causing real wages to increases

Question 8

according to the SS theorem what would cause a national labour shortage

Answer 8

since the industry expanding is labour intensive they would absorb labour faster than how the contracting indsutry is releasing it.

Question 9

plot 2 ft between 2 large countries in RM

• country A has a CA in good X
• country B has an AA in both goods

Answer 9

use the notes