Question

The labor-abundant economy has shifted from being self-sufficient to free trade with the rest of the world. This country satisfies the Heckscher-Ohlin theorem.
a). In the short term after the opening of trade, it is impossible to build new factories or install new machinery. However, labor can move between industries. In the early stages after the opening of trade, what will be the wages and capital returns of workers in the export and import competition industries?
b). Eventually, new factories can be opened and other factories can be closed. In the long run, what will be the absolute return on capital and worker wages? If someone gains something in this long-term situation, while others lose, what does "free trade gain" mean?

Answer 1

a) According to Heckscher-Ohlin Theorem, a country having more of capital resources and scarcity of labour force will tend to export more of capital intensive goods and import the labour intensive products.

Similarly, the country where labour force is more than capital stock, it will tend to export more of labour intensive goods and import capital intensive goods.

In the short-term development of production process, building of new factories and installation of new machinaries is only possible when required capital is in abundance, and the product is capital intensive.

As in the particular market condition where labour is scarce but can move freely between the industries, their wage rates will be higher but the quantity of production will be hampered as the totalworking hours of labourers will be less.

In order to increase capital return of the workers introduction of modern tools and techniques is must so as to increase the output for exports.

b) Subsequently, while opening up the new industries in the market, the industries incurring loss will be closed.

The supply of labour force force will also be shifted towards the new avenues and production line.

In the long-run, the new industries will produce more using available labour and plentiful of capital in form of modern tools and techniques of production.

The cost of production will also decrease in the long run, making the final price of the product low and reasonable.

This would increase the demand and total quantity produced and supplied would increase, as more of capital intensive goods would be produced and exported in the open global market.

More production and exports would yield more profits, hence, the wages of the labour force will also increase with time.

The more the wages the more would be their purchasing power and consumption.

The competitor countries would lose in the long-run as demand of their product would fall.