4.
Suppose that instead of 1200 workers Home had 2400. Find the
equilibrium relative price. What can you say about the efficiency of world
production and the division of the gains from trade between Home and Foreign is
this case?
The increase in the number of workers at Home shifts out the relative
supply schedule such that the corner points are at (1, 3/2) and (1, 5) instead
of (1/2, 3/2) and (1/2, 5). The intersection of the relative demand and relative
supply curves is now in the lower horizontal section, at the point (2/3, 3/2).
Foreign is completely specialized in bananas, but Home still
produces some bananas and some apples. In this case, Foreign still gains
from trade but the opportunity cost of bananas in terms of apples for Home is
the same whether or not there is trade, so Home neither gains nor loses from
trade.
In this case, Foreign's exports are too small to change
relative prices in Home. Thus the small country, Foreign, captures ALL of the
gains from trade. This rather surprizing result is know as "the importance of
being unimportant."
Production is still efficient, because each country is still producing on its
Production Possibility Frontier.
5.
Suppose that Home had 2400 workers, but they are only half as productive in both
industries as we have been assuming. Construct the world relative supply curve
and determine the equilibrium relative price. How do the gains from trade
compare with those in the case described in problem 4?
This answer is identical to that in 3. The amount of "effective labor"
has not changed since the doubling of the labor force is accompanied by a
halving of the productivity of labor.
As in problem 3, the equilibrium world price of 2(B/A) is
between the autarky price of Home and Foreign. As a result, both countries gain
from trade.
6. "Korean workers
earn only $2.50 an hour; if we allow Korea to export as much as it likes to the
United States, our workers will be forced down to the same level. You can't
import a $5 shirt without importing the $2.50 wage that goes with it." Discuss.
This statement is just an example of the pauper labor argument discussed in the
chapter. The point is that relative wage rates do not come out of thin air; they
are determined by comparative productivity and the relative demand for goods.
The box in the chapter provides data which shows the strong connection between
wages and productivity. Korea's low wage presumably reflects the fact that Korea
is less productive than the United States in most industries. As the text
example illustrated, a highly productive country that trades with a less
productive, low-wage country will raise, not lower, its standard of living.
7. “Japanese labor
productivity is roughly the same as that of the United States in the
manufacturing sector (higher in some industries, lower in others), while the
United States is still considerably more productive in the service sector. But
most services are nontraded. Some analysts have argued that this poses a problem
for the United States, because our comparative advantage lies in things we
cannot sell on world markets.” What is wrong with this argument?
The problem with this argument is that it does not use all the information
needed for determining comparative advantage in production: this calculation
involves the four unit labor requirements (for both the industry and service
sectors, not just the two for the service sector). It is not enough to compare
only service's unit labor requirements. If aLS <
aLS*,
Home labor is more efficient than foreign labor in services. While this
demonstrates that the United States has an absolute advantage in services, this
is neither a necessary nor a sufficient condition for determining comparative
advantage. For this determination, the industry ratios (aLM and aLM*) are also required. The
competitive advantage of any industry depends on both the relative
productivities of the industries and the relative wages across industries.
8. “Anyone who has
visited Japan knows it is an incredibly expensive place; although Japanese
workers earn about the same as their U.S. counterparts, the purchasing power of
their incomes is about one-third less. Extend your discussion from question 7 to
explain this observation. (Hint: Think about wages and the implied prices of
nontraded goods.)”
While Japanese workers may earn the equivalent wages of U.S. workers, the
purchasing power of their income is one-third less. This implies that although
w=w* (more or less), p<p*
(about p = 2/3 p*, where p is the US price level and p* is Japan’s).
Since the United States is considerably more productive in services, service
prices are relatively low. This benefits and enhances U.S. purchasing power.
However, many of these services cannot be transported and hence, are not traded.
This implies that the Japanese may not benefit from the lower U.S. services
costs, and do not face an international price which is lower than their domestic
price. Likewise, the price of services in United States does not increase with
the opening of trade since these services are non-traded. Consequently, U.S.
purchasing power is higher than that of Japan due to its lower prices on
non-traded goods.
9. How does the fact
that many goods are nontraded affect the extent of possible gains from trade?
Gains from trade still exist in the presence of nontraded goods. The gains from
trade decline as the share of nontraded goods increases. In other words, the
higher the portion of goods which do not enter international marketplace, the
lower the potential gains from trade. If transport costs were high enough so
that no goods were traded then, obviously, there would be no gains from trade.
10.
We have focused on the case of trade involving only two
countries. Suppose that there are many countries capable of producing two goods,
and that each country has only one factor of production, labor. What could we
say about the pattern of production and trade in this case? (Hint: Try
constructing the world relative supply curve.)
The world relative supply curve in this case consists of
a step function, with as many "steps" (horizontal portions) as there are
countries with different unit labor requirement ratios. Any countries to the
left of the intersection of the relative demand and relative supply curves
export the good in which they have a comparative advantage relative to any
country to the right of the intersection. If the intersection occurs in a
horizontal portion then the country with that price ratio produces both goods.