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[Heckscher-Ohlin] Consider the situation of a Brazilian-style economy in the early 20th century after transportation improvements. There are two goods, manufactures, and food. There are two regions, the North and the South. These goods satisfy the strong-factor intensity hypothesis, i.e. at any factor prices, producing manufactured goods is more capital intensive, and producing food is more labor-intensive. Before the construction of the new rail system, each region is self-sufficient. The North has $100 billion in the capital and 5 million workers. The South has $500 billion in the capital and 10 million workers. After the rail system is open trade begins. Assume transport costs after the system opens are negligible, but factors remain immobile.

a. What is the overall capital-labor ratio in the South immediately before trade opens? What is the overall capital-labor ratio in the North immediately before trade opens?

b. Which region has higher wage rates? Which region has higher returns on capital? Why?

c. Which region has an advantage in producing manufactured goods? Why? Which region has an advantage in producing food? Why?

d. After trade begins, what do you expect to happen to the industrial structures of the two regions? Why?

e. In a full trade equilibrium will wage differ between industries? Between regions? Explain.

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Chika Ilonah
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28 Sep 2019

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Related questions

1. The capital stock in India is $22 trillion, and the labor force is 511 million people. The capital stock in Sri Lanka is $584 billion, and the labor force is 8 million people. Which country is relatively capital abundant?

A.India.

B.Sri Lanka

2. The capital to labor ratio in steel production in India and Sri Lanka is higher than the capital to labor ratio in textile production in both countries. We can say that the steel industry is

A.relatively capital abundant in both countries.

B.relatively capital intensive in both countries.

C.has a comparative advantage over the textile industry.

D.has an absolute advantage over the textile industry.

3. Using the data from the previous two problems, and assuming that the only two countries in the world are Sri Lanka and India, the Heckscher-Ohlin Theorem predicts that ________ , and the Stolper Samuelson Theorem predicts that _____________.

  A.

India will export steel; labor in India will benefit from trade.
  B.

Sri Lanka will export steel; labor in Sri Lanka will benefit from trade.
  C.

India will export steel; capital owners in India will benefit from trade.
  D.

Sri Lanka will export steel; capital owners in Sri Lanka will benefit from trade.

1. The Heckscher Ohlin model Home and Foreign have twoproduction factors, skilled and unskilled labor and produce twogoods, textiles and computers. Home is skilled labor abundant,and computers are skilled labor intensive. Starting from asituation of autarky, the two countries liberalize trade. Assumingthat the two countries produce both goods before and after tradeliberalization, answer the following questions:

  1. (a) What is the effect of trade liberalization on the relativeprice of com- puters at Home and in Foreign?

  2. (b) What is the effect of trade liberalization on the output ofcomputers and textiles at Home and in Foreign?

  3. (c) What is the effect of trade liberalization on aggregatewelfare in the two countries?

  4. (d) What is the effect of trade liberalization on the realfactor returns in Home and Foreign? Please provide a graphicalexplanation for your argument. What is the name of this famousresult?

2. The Heckscher-Ohlin model Recently, computer programmers indevel- oping countries like India have begun doing some workformerly done in the United States. This shift has undoubtedly ledto substantial pay cuts for some programmers in the United States.Answer the following two questions:

  1. (a) How is it possible, when the wages of skilled labor arerising in the United States as a whole?

  2. (b) What argument would trade economists make against seeingthese wage cuts as a reason to block outsourcing of computerprogramming?

3. The Heckscher-Ohlin model This question asks you to reviewsome of the empirical tests of the Heckscher-Ohlin model.

(a) Explain how the Leontief Paradox and the more recent resultsby Bowen, Leamer and Sweikauskas discussed in class and in thetextbook contradict the predictions of the Heckscher Ohlinmodel.

(b) In the discussion of empirical results on the HeckscherOhlin model, we noted that recent work suggests that the efficiencyof production factors differ across countries. Explain how thiswould affect the concept of factor price equalization.

Mexico's automobile industry is booming. Bolstered by $19 billion in new investment from foreign carmakers, including Nissan, Honda, Volkswagen, and Mazda, vehicle production doubled between 2009 and 2014 to an estimated 3.2 million vehicles. This investment surge has transformed Mexico into the eighth-largest automaker in the world, and it's not over yet. In 2014 and 2015, Toyota, Mercedes-Benz, Hyundai-Kia, BMW, and Volkswagen all outlined plans to build new state-of-the-art factories in Mexico. Audi is also constructing a $1.3 billion factory that is slated for producing luxury sport-utility vehicles. The Audi factory is scheduled to open in 2016. Taken together, these new factories represent another $20 billion in investment that will push Mexico past Brazil and South Korea to become the sixth-largest car producer in the world by 2020 with an annual output of 4.7 million vehicles (for comparison, the U.S. industry makes some 11.5 million autos a year). The initial stimulus for the dramatic growth of the Mexican auto industry was the establishment of the North American Free Trade Agreement (NAFTA) in 1994. Prior to NAFTA, Mexico's auto industry was small and protected from foreign competition by high tariff barriers. Car prices in Mexico were two to three times higher than in the United States. Not only were cars in Mexico more expensive, exporting or importing cars and parts was also very tough. Shipments got delayed at the border and were difficult to move around because of poor infrastructure, which is a major problem in an industry in which tight logistics is critical. NAFTA removed most tariff and nontariff barriers to trade between Mexico, the United States, and Canada. This initially led to a flood of low-priced auto imports into Mexico from the United States, but it also gave auto manufacturers based in Mexico duty-free access to the large U.S. market next door. With labor costs in Mexico just a fraction of those in the United States, auto manufacturers now had to consider Mexico when planning new plants to serve the North American market. Mexico's shift to free trade didn't stop with NAFTA. Mexico spent much of the 2000s hammering out free trade deals with over 40 other countries, including the 28 states of the European Union, Japan, and Brazil. These deals give auto factories based in Mexico duty-free access to markets that contain 60 percent of the world's economic output, and they have helped transform Mexico into the fourth-largest auto exporter in the world. Eighty percent of the cars now produced in Mexico are exported to other countries, two-thirds of them to the United States. This unprecedented network of regional trade agreements has given Mexico an important edge when it comes to attracting new investment. For example, when BMW ships cars to Europe from its 20-year-old plant in South Carolina, it is hit with a 10 percent import duty. For a $50,000 car, that amounts to $5,000, which is a much bigger factor than differences in labor costs. A factory in Mexico can supply both the U.S. and the EU markets with duty-free automobiles. This was a major factor behind BMWs 2014 decision to build a new factory in central Mexico rather than the United States, far outweighing the $500 a car labor cost advantage that Mexico currently enjoys over the United States. The new BMW factory will supply the U.S. and EU markets, as well as Latin America. Indeed, because of differences in trade barriers, a car exported from the United States to Brazil costs 55 percent more than one exported from Mexico. As Mexico's auto industry has grown, auto-part suppliers have also followed manufacturers to Mexico. The large auto parts supplier Delphi, for example, has 30 factories in Mexico and generates revenues of $3 billion in the country. Employment at Delphi's facilities doubled to 24,000 between 2007 and 2014. Infrastructure has also improved dramatically, and customs clearance at the border is now quick and efficient. All of this bodes well for the future of the Mexican auto industry. However, not everyone is happy with what has happened. Some argue that growth in Mexico has come at the expense of factories in the United States, which has had a negative impact on employment growth in the U.S. auto industry. When BMW decided to build a factory in central Mexico, for example, it meant that it would not be expanding its South Carolina plant. The South Carolina plant will continue to operate, and no plants have been closed as a result of the growth of production in Mexico, but it is true that new plants are increasingly being located south of the border. Sources: Joann Muller, America's Car Capital Will Soon Be... Mexico,€ Forbes, July 20, 2014; Dudley Althaus and William Boston, Trade Pacts Give Mexico an Edge,” The Wall Street Journal, March 18, 2015; Sonari Glinton, How NAFTA Drove the Auto Industry South, National Public Radio, December 8, 2013; Serena Maria Daniels, Twenty Years after NAFTA, a Mini Detroit Rises in Mexico,” Bridge, September 25, 2014. CASE DISCUSSION QUESTIONS

1. What was the initial impact of NAFTA on the U.S. and Mexican automobile markets? Who benefited most from this?

2. How did the impact of NAFTA start to change location decisions by automobile manufacturers over the years? How did this start to impact automobile production in Mexico and the United States?

3. Mexico has been very proactive in signing regional free trade deals in addition to NAFTA. How has this strategy impacted automobile consumers and producers in Mexico? How has it impacted automobile consumers and producers in the United States?

4. What lessons can United States policymakers draw from the growing success of the Mexican automobile industry that can be applied to future free trade deals, such as the deal currently being negotiated between the United States and the European Union?

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