Question

Suppose there are two countries, the U.S. and Mexico. Before immigration, wages are higher in the U.S. Both countries produce the manufactured good using labor and capital, and the agricultural good using labor and land (i.e. labor is mobile, but land and capital are specific factors). Assume that there is no change in the prices of the manufactured and agricultural goods, and there is no international trade in these goods, either. (4 points each, 12 points total)

Hint: you do NOT need to show the gains from immigration in the graphs below.

(1) Draw a diagram showing the labor demand curves of the U.S. and Mexico, and the equilibria for these two countries before immigration.

(2) Label the equilibrium with free immigration, and the size of the immigration flow in your diagram in (1).

(3) Suppose Mexico was hit by a currency crisis and went into a deep economic recession. Use the diagram in (1) to show the effect of the Peso crisis on the size of the immigration flow.

Answer 1

(1) Draw a diagram showing the labor demand curves of the U.S. and Mexico, and the equilibria for these two countries before immigration.

Figure A shows a normal equilibria for labor market in USA and Mexico. A normal equilibrium is there in both the countries.

(2) Label the equilibrium with free immigration, and the size of the immigration flow in your diagram in (1).

If there is free of labor then Mexico labors will be attracted towards USA as higher wages will attract them. Hence wage rates in USA may go down from w1 to w2. Refer fig. B

In Mexico, if this is not compensated by labors in 'spare'. then wages in Mexico may go up.

(3) Suppose Mexico was hit by a currency crisis and went into a deep economic recession. Use the diagram in (1) to show the effect of the Peso crisis on the size of the immigration flow.

Recession is a condition wherein real GDP goes down for six months and more. This will increase the migration from Mexico as people will not be sure of their income. This will create effect as mentioned in (2).