Question

3. The Ricardian Model vs. the Heckscher-Ohlin Trade Model. Discuss the difference between both models, including the PPC (you should be able to draw out the difference for the exam), the income distribution effects of trade.

4. According to the following table, which country is relatively more labor-abundant? Explain your answer. Which is relatively more capital-abundant?

United States Canada

Capital 40 machines 10machines

Labor 200 workers 60 workers

5. Suppose that the United States and Canada have the factor endowments given in the table in
Question 4. Suppose further that the production requirements for a unit of steel is 2 machines
and 8 workers, and the requirement for a unit of bread is 1 machine and 8 workers.

a) Which good, bread or steel, is relatively capital-intensive? Labor-intensive? Explain your answer.

b) Which country would export bread? Why?

Chapter 5

1. Name some of the gains from intra industry trade.

2. What are the three drivers of external economies of scale?

3. Comparing U.S. trade with Germany and Brazil, is trade with Germany more likely to be based on comparative advantage or economies of scale? Why?

Answer 1

Question 3.

The ricardian model of international trade is based on the concept of comparative advantage while the heckscher-ohlin model is based on the concept of factor abundance.

The ricardian model predicts that the country which has a comparative advantage in the production of certain good will completely specialize in the production of that good. While the heckscher ohlin models predicts that country will export a good which uses a factor intensively which is abundant in that country.

The income distribution effect in ricardian model is straight forward, in ricardian model there is only one factor of production that is labor and all the countries and the labors gains from trade.

But under heckscher-ohlin model the income distribution is little different. The factor which abundant is the country gains from trade, that is the exporting sector while the factor which is relatively scarce losses from trade.

So in the above image you can see the PPC under ricardian model. Assuming the country has a comparative advantage in the production of good 1 hence it completely specializes in the production of good 1 shown by point A. The relative price of good1 in home country increases shown by the dahsed line and hence the PPC of the country has expanded.

In the above figure the concave shape PPC is given for heckscher-ohlin model. Before the trade the country producing at point A given the prices. But assuming that the country has factor abundance which is used intensively in the prodioof good 1 hence it exports good 1. The relative price of good 1 increases in the country shown by the steeper line. The country will now produce at point B where it is now producing more of good 1 and less of goods 2. And you can see that budget line has shifted outwards which shows thar the country can now consumer more than what it produces because of the gains from trade.

Also as you can see under heckscher-ohlin the country doesn't completely specializes in the production of one good as opposed to ricardian model where country does completely specializes in the production of one good.

Question 4.

To know which country is relatively labor abundant we need to calculate the labor capital ratio in each country and the country with higher labor capital ratio will a relatively higher labor abundant country.

Labor capital ratio for United States

= total labor/total capital

= 200/40

= 5

So the labor capital ratio in United States is equal to 5.

Similarly we can calculate the labor capital ratio for Canada.

= total labor/total capital

= 60/10

= 6

So the labor capital ratio in Canada is 6.

As we can see that the labor capital ratio is higher in Canada compared to United States hence Canada is relatively labor abundant country.

Question 5.

Again to calculate which good's production is relatively capital intensive or relatively labor intensive we need to calculate the capital labor ratio in each good's production and similarly the labor capital ratio in each good's production.

(a) The capital labor ratio in steel production is equal to,

= units of machine /units of labor

= 2/8

= 1/4

So the capital labor ratio in the production of steel is 1/4.

Similarly the capital labor ratio in the production of bread will be,

= units of machine/units of labor

= 1/8

As we can see that the production of steel has a higher capital ratio, hence the production of steel is relatively capital intensive.

(b) Now let's calculate the labor capital ratio in the production of steel and bread.

For steel it is equal to,

= units of labor/units of machine

= 8/2

= 4

So the labor capital ratio is 4 in the production of steel.

Similarly we can calculate the labor capital ratio in the production of bread.

= units of labor/units of machine

= 8/1

= 8

So the labor capital ratio in the production of bread is 8.

As we can see that the labor capital ratio is higher in the production of bread hence the production of bread is relatively labor intensive.