Situation: Suppose there are two countries, Germany and India, and two goods, bicycles and textiles. Germany...

Situation: Suppose there are two countries, Germany and India, and two goods, bicycles and textiles. Germany has a resource endowment of 42,444,325 units of labor and 8,873,941 million units of capital, while India has a resource endowment of 475,090,729 units of labor and 10,299,894 million units of capital. Each bicycle requires 100 units of capital and 10 units of labor to produce, and each unit of textiles requires 40 units of capital and 2 units of labor to produce.

Question: When these two countries move from no trade to free trade, who gains and who loses in the long run according to the factor endowments model? Explain yourself.

Solutions

Expert Solution

In this scenario, Germany has a resource endowment of 42,444,325 units of labor and 8,873,941 million units of capital, while India has a resource endowment of 475,090,729 units of labor and 10,299,894 million units of capital.
It is also mentioned that each bicycle requires 100 units of capital and 10 units of labor to produce, and each unit of textiles requires 40 units of capital and 2 units of labor to produce.

In comparative term, Germany has a higher level of capital (around 9 billion units) in comparison with labor (around 42.5 million units). On the other hand, India has a higher level of labor resource (around 475 million units) against the capital
(around 10.3 billion units). The capital to labor ratio for Germany is around 211 and that of India is around 21.

Capital to Labor Ratio = Total Units of Capital / Total Units of Labor

It could also be seen that the bicycle needs the capital which is 10 times relative to the labor. While textile needs capital which is 20 times the labor. The situation indicates that the production of textile is more capital intensive.

In the free trade scenario, each country will specialize and Germany will produce textile only while India will produce bicycles.
There won't be any loss in free trade scenario and both countries will have a higher production of textiles as well as bicycles in the long run.

Rahul Sunny answered 8 months ago

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