Determine whether each of the following statements is true, false or uncertain, and brie y justify...

Determine whether each of the following statements is true, false or uncertain, and brie y
justify your answer (2-3 sentences). Note: No credit will be given for unsupported answers.

1. The specic factors model predicts that countries open to free trade will not be perfectly
specialized in the production of one good.

2. Mobile factors of production gain more from trade liberalization than immobile factors.

3. The Specic Factors model provides a good explanation for the increases in income
inequality that have been observed in recent decades, both for skill-abundant developed
countries and skill-scarce developing countries.

4. Consider a country with two mobile factors of production, capital (K) and labor (L),
producing two goods with perfectly mobile factors of production. If trade liberalization
causes the relative price of the capital-intensive good to fall in the Home country, then
the losses incurred by Home's capital-owners (as measured in terms of consumption
possibilities) may exceed the total gains to Home's laborers.

Solutions

Expert Solution

1- True- The specific factor model is a short run model with capital and land as fixed factors but labor is a variable input in production.In competitive markets, each factor receives its marginal product for example wage is the value of marginal product. marginal product of labor declines as more is put to use and as labor is mobile and shared by two countries so no country will be perfectly specialized in production of a good so it can produce it and still import it. The complete specialization will make more labor cput to the same industry and so will create imbalance in the marginal product of the labor and real returns will be less. To specialize there will be expansion of one industry which will lead to transferring labor out of the other industry which will get contracted. Due to the diminishing returns to labor, each additional unit of labor switched will have a smaller effect on the expanding industry and a larger effect on the contracting industry, so the overall gain from specialization will be less.

2- False - The given statement is not completely true. The reason is that mobile factor labor is free moveable between countries may gain or loss since as per the theory the real wages in export industry will rise and that in import industry falls. The export industry will hire more labors due to expansion and wages will rise but due to diminishing marginal returns, marginal product of labor decreases with more employment. The import industry will increase wages to retain its labor and so wages will rise but only till a level that equalizes the value of the marginal product in both industries. Similarly for the immobile factor capital, a movement to free trade will cause a redistribution of income. Some owners of capital in the export industry will benefit from free trade while owners of capital in the import-competing industries will lose from free trade. So as per the model its not mobility that determines the benefits but the industry which employs the factors.

3- True- The model says that though labor is shared between the countries and even if output prices are equal the wages may not be equal.The labor productivities are different in the two countries due to differences in weather, capital or infrastructure, so free trade will not equalize wage rates. The wage rate may be same in various industries with in a country but varies between countries. The free trade will expand exporting industry and contract importing industry. The export industry will hire more labors due to expansion and wages will rise but due to diminishing marginal returns, marginal product of labor decreases with more employment. The import industry will increase wages to retain its labor and so wages will rise but only till a level that equalizes the value of the marginal product in both industries. However, due to diminishing marginal returns, marginal product of labor decreases with employment. Free trade equalizes output prices, but not wages.

4- True- The SF model shows that with free trade, the real rents in the exports industry rise, and the real rents in the import-competing industry fall, and real wages in both industries may rise or fall. So the capital owners will be at loss if trade liberalization will reduce the price of capital intensive importing industry.

Rahul Sunny answered 1 year ago

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