Question

Australia - Land Abundant

India - Labor Abundant

Wheat - Land intensive

Textiles - Labor Intensive

Explain why both the countries will have different prices in an Autarky?

Answer 1

Autarky refers to a country which practices restrictive trade practices with other countries, i.e., it does not participate in international trade and is self sufficient within itself with production and consumption taking place within the country without any engagement in international trade. In reality there are hardly any country found to be a pure autarky.

In this system the prices of goods in one country is based on the capital, land and labor productivity of that country. For our discussion we can say that in an autarky, India will keep on producing both textiles and wheat as well as Australia due to the absence of international trade. But the problem is that India is a labor abundant country which has more supply of labor but lacks the abundance of land whereas Australia has more of land than labor. So when in this scenario, both the countries will try to produce wheat and textiles, the price of textile will be lower in India and price of wheat will be more, and in Australia the price of wheat will be less with higher prices for textiles. The reason for such difference in prices will happen due to the fact that production of textiles needs more labor which is abundant in India thus the wages will be lower for textile industry thus increased production can be achieved at lower price. Now the price of wheat will be cheaper due to abundance of land, and with abundance of land, the wheat farmers can grow more wheat at cheaper rates due to lower rent payments for the use of land, thus lower prices for wheat. And the price of wheat in India will be more due to scarcity of land and higher rental payments, which will increase the cost of production for wheat thus higher prices will be charged to the consumers due to higher cost of production. And in Australia the prices of textiles will be higher due to higher wage rates, as labor is scarce thus higher wage payments are required for textile industries which ultimately increases the cost of production and the final price of textile products are thus higher compared to India.

When such countries engage in free trade, they export the factor or commodity which is abundant in that country and imports such factor or commodity from other countries which is scarce. Thus if India and Australia engage in a trade, India will export textiles and Australia will export wheat thus the two economies will merge, which will decrease the cost of production as the labor intensive textiles are imported by Australia at a cheaper rate than the actual cost of production of producing that product within its boundaries whereas India will import wheat from Australia at cheaper prices as compared to self production. Thus in free trade the prices of both the commodities will be equalized or the equilibrium price will be same for both the commodities given that the technology is same in both countries, the transportation costs are negligible with no legal constrains for practicing such free trade.

Thus from the above discussion we can conclude that due to abundance of labor in India and textiles being labor intensive products, it will have a lower price in India as compared to Australia due to lower cost of production and lower wage rates, but the price of wheat will be more in India due to scarcity in the supply of land, as wheat is a land intensive product, the cost of production will be higher in India as compared to Australia. And in Australia the textile prices will be more due to scarcity of labor and higher wage rate, thus higher cost of production and higher prices. Wheat will be cheaper due to abundance of land and lower rents, thus lower cost of production. If both the countries engage in free trade, they will benefit from such engagement with equal prices of the commodities in both India and Australia.