Relationship between international factors movement and international trade
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Relationship between international factors movement and international trade. Substitution. Assume labor moves from china into U.S. After the immigration, China will produce less labor-intensive products while the US will produce more labor-intensive commodities.

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Substitution
Substitution international trade

  • Assume labor moves from china into U.S.

  • After the immigration, China will produce less labor-intensive products while the US will produce more labor-intensive commodities.

  • This implies that international trade between the two countries will shrink.


Mundell 1959 aer model
Mundell (1959,AER) Model international trade

  • Assumptions:

  • 2 by 2 model

  • Produce steel and cotton

  • China is labor abundant but small country

  • US is capital abundant and large country

  • Identical technology

  • Factors are perfectly mobile between the two countries.



China
china free trade.

  • C p’

  • P

  • D

  • Y


Recall stolper samuleson theorem
Recall Stolper-Samuleson Theorem free trade.

  • An increase of the relative price of a commodity will increase the real return of the factor used intensively in that product.

  • Price of steel up r up

  • An increase of price of the steel steel production raises require more capital excess demand exists pushes up capital price.


  • Rch > Rus free trade.

  • Capital flows into China

  • China’s PPF outshifts

  • Capital outflow does not affect US’s MPK.

  • Eventually, China’s MPK should equal US’s MPK

  • China’s final relative price ratio should be identical to its original price ratio.


  • Production in China increases, but welfare is still the same since we have to pay the interest to the foreign country.

  • Hence, they exist a substitute relationship between factor movement and international trade.

  • Markuson (1983) : international factor movement and trade are complement instead of substitution by assuming heterogeneous technology across countries !


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