Chapter 2 (continue) Labor Productivity and Comparative Advantage: The Ricardian Model

1. Chapter 2 (continue) Labor Productivity and Comparative Advantage: The Ricardian Model

2. 一、Trade in a One-Factor World(continue) • How about the benefits after trade? Today we will answer this question, then we will deal with another important things in trade models.

3. The Gains（收益）from Trade • If countries specialize （分工）according to their comparative advantage, they all gain from this specialization and trade. • We will demonstrate these gains from trade in two ways and show in Figure 2-4.

4. First, we can think of trade as a new way of producing goods and services. that is to “produce” wine by producing cheese and then trading the cheese for wine. • This indirect method of “producing”（间接生产方法）a gallon of wine is a more efficient method than direct production. • (1/aLC)(PC / PW ) > 1/aLw (2-5)

5. Why? • It comes from the following equation: • PC / PW > aLC /aLw • It is more efficiency to produce cheese than wine.

6. Another way is to consider how trade affects the consumption in each of the two countries. • Trade enlarges the consumption possibility（消费可能性）for each of the two countries. • Why?

7. In the absence of trade, consumption possibilities are the same as production possibilities. • Once trade is allowed, however, each economy can consume a different mix of cheese and wine from the mix it produces.

8. Quantity of wine, Q*W Quantity of wine, QW F* T P F T* P* Quantity of cheese, QC Quantity of cheese, Q*C • Figure 2-4: Trade Expands Consumption Possibilities (a) Home (b) Foreign International trade allows Home and Foreign to consume anywhere within the colored lines

9. A Numerical Example • The following table describes the technology of the two counties: Table 2-2: Unit Labor Requirements

10. The previous numerical example implies that: • aLC / aLW(机会成本) = 1/2 < a*LC / a*LW = 2 • In world equilibrium, the relative price of cheese must lie between these values. Assume that PC/PW = 1 gallon of wine per pound of cheese.

11. Home can use one hour of labor to produce 1/aLC = 1 pound of cheese, sell this amount to Foreign, and obtain 1 gallon of wine. which is more than 1/2 gallon of wine. • In the presence of trade, Foreign can use one unit of labor to produce 1/a*LW = 1/3 gallon of wine, sell this amount to Home, obtain 1/3 lb of cheese which is more than 1/6 lb.

12. Relative Wages and cost advantage（成本优势） • Dealing with the gains from trade, some people complain that international trade make workers of advanced countries worse off by lowering their wages. • Is that true?

13. Because there are technological differences between the two countries, trade in goods does not make the wages equal across the two countries. • A country with absolute advantage in both goods will enjoy a higher wage after trade.

14. 资料来源:联合国贸发组织, 2002

15. This can be illustrated with the help of a numerical example: • Assume that PC = $12 and that PW = $12. Therefore, we have PC / PW= 1 as in our previous example. • Since Home specializes in cheese after trade, its wage will be (1/aLC)PC = ( 1/1)$12 = $12.

16. Since Foreign specializes in wine after trade, its wage will be (1/a*LW) PW = (1/3)$12 = $4. • Therefore the relative wage of Home will be $12/$4 = 3. • Thus, the country with the higher absolute advantage will enjoy a higher wage after trade.

17. Both countries have cost advantage if the relative wage （相对工资）is between the relative productivities （相对劳动生产率）. • The relative wage -----------------------------3, • The relative productivity in cheese--------6, • The relative productivity in wine--------- 3/2. • Home : aLC =1(1ｘ3 =3) ; aLW = 2(2ｘ3 =6) • Foreign: a*LC =6(6ｘ1=6); a*LW = 3(3ｘ1=3)

18. Discussion What are the reasons for rapid growth of trade in China in more than 20 years? Discussion What are the reasons for rapid growth of trade in China in more than 20 years?

19. Case study Cost advantage in China.

20. 我国纺织服装业的成本优势 • 纺织业每小时劳动工资成本 • 我国为0.62美元， • 韩国为3.63美元， • 德国为21.48美元； • 服装业每小时劳动工资成本 • 我国为0.43美元， • 韩国为2.69美元， • 德国为18美元。

21.  From this comparison, it is possible to draw several significant conclusions:

22. 二、Misconceptions About Comparative Advantage • We have learned the Ricardian model, but there are so many wrong ideas about the international trade. We need to correct them.

23. Productivity and Competitiveness • A well-known historian said: “What if there is nothing you can produce more cheaply or efficiently than anywhere else? ”

24. Myth 1: Free trade is beneficial only if a country is strong enough to withstand(经受住) foreign competition. • This argument fails to recognize that trade is based on comparative not absolute advantage.

25. The competitive advantage of an industry depends not only on its productivity relative to the foreign industry, but also on the domestic wage rate relative to the foreign wage rate. • In our numerical example, Foreign has competitive advantage with lower wages in wine production.

26. The Pauper Labor Argument(贫民劳动论) • In 1993 Ross Perot warned that free trade between U.S. and Mexico was not beneficial to U. S. economy. • Myth 2:Foreign competition is unfair and hurts other countries when it is based on low wages.

27. It is favorite of labor unions to seeking protection from foreign competition. • Again in our example Foreign has lower wages but home still benefits from trade. • Because it is cheaper in term of its own labor for home to produce cheese and trade it for wine than to produce wine for itself.

28. Exploitation（剥削论） • One columnist contrasted the $2 million income of the chief executive officer of the clothing chain The Gap with the $0.56 per hour paid to the central American workers who produce the clothing. • Myth 3: Trade makes the workers worse off in countries with lower wages.

29. In the absence of trade these workers would be worse off. • Again in our example, the purchasing power of a worker’s hourly wage would fall from 1/3 to 1/6 pound of cheese. • Denying the opportunity to export is to condemn poor people to continue to be poor.

30. Table 2-3: Changes in Wages and Unit Labor Costs

31. 三、Comparative Advantage with Many Goods • In the model we discussed so far there are only two goods, but in reality there is a large number of goods. • It is necessary to understand how comparative advantage functions with a large number of goods.

32. Setting Up the Multigood Model • Both countries consume and are able to produce a large number, N, of different goods. • The unite labor requirement for each good represents the technology of each country.

33. For any good we can calculate （计算）aLi / a*Li, the ratio of home unite labor requirement to foreign’s. The goods were relabeled（贴标签）, the lower the number, the lower this ratio. • aL1 / a*L1< aL2/ a*L2 <aL3/ a*L3<aL4 / a*L4

34. Relative Wages and Specialization • The pattern of trade will depend on the ratio of Home to Foreign wages. • Let w be the wage rate per hour in home and w*be the wage rate per hour in foreign. • Goods will always be produced where it is cheapest to make them.

35. For example: • It will be cheaper to produce good i in Home if waLi < w*a*Li . Which can be rearranged to yield • a*Li / aLi(相对生产率优势)> w /w* (相对工资) • It will be cheaper to produce good i in foreign if waLi> w*a*Li . Which can be rearranged to yield • a*Li / aLi <w /w*

36. Table 2-4: Home and Foreign Unit Labor Requirements

37. Which country produces which goods? • A country produces any good in which it has a cost advantage(成本优势) . • A country has a cost advantage in any good for which its relative productivity is higher than its relative wage (a*Li / aLi> w /w* ).

38. If, for example, w/w* = 3, Home will produce apples, bananas, and caviar, while Foreign will produce only dates and enchiladas. • Both countries will gain from this specialization. Home gets a unit of date with 4 person-hours (12/3), not 6 person-hours; foreign gets a unit of apples with 3 person-hours(3/3), not 10 person-hours .

39. Determining the Relative Wage in the Multigood Model • In order to make who produce which good, we need to get relative wages according to above. • To determine relative wages in a multigood economy we must look behind the relative demand for goods, that is the relative derived demand (相对派生需求).

40. The relative deriveddemand for Home labor will fall when the ratio of Home to Foreign wages rises. The reasons are followings: 1. wages↑----relative price of good↑----demand↓ 2. wages ↑---- relative production↓ ----demand ↓

41. The relative supply of labor is determined by the relative size of Home and Foreign labor forces.

42. We can illustrate the determination of relative wages with a diagram like Figure 2-5 • RD: The relative demand for Home labor . • RS : The relative supply of Home labor. • The equilibrium relative wage is determined by the intersection of RD and RS.

43. Relative wage Rate, w/w* RS Apples 10 Bananas 8 Caviar 4 3 Dates 2 Enchiladas 0.75 RD Relative quantity of labor, L/L* Figure 2-5: Determination of Relative Wages

44. Downward sloping section where the pattern of specialization does not change. • Flats section where the relative demand shift abruptly because of shift in the pattern of specialization.

45. The equilibrium relative wages is 3. Home produces apples, bananas, and caviar. Foreign produces dates and enchiladas. • The outcome of Figures depends on the relative demand for the goods (which determines the shape and position of RD)and the relative size of countries (which determines the position of RS).

46. If the intersection of RD and RS happens to lie on one of the flats, both countries produce the good, because relative wages equals the ratio of Home to Foreign productivity.

47. 四、Adding Transport Costs and Nontraded Goods In the trade model above, we neglect the transport costs in the trade. Now we deal with the costs in transportation in international trade.

48. Why specialization is not extreme • The effects of transport costs. • The effects of trade barriers. • The effects of other factors of production.

49. The effects of transport costs. • Transportation cost will discourage trade. • The result of introducing transport costs makes some goods nontraded. • Transportation cost does not change the fundamental principle of comparative advantage or the gains from trade.

50. In some cases transportation is virtually impossible. • Example: Services such as haircuts and auto repair cannot be traded internationally.