PROBLEM SET 4
PUGEL, pp. 88-90: 1*, 2, 3*, 4, and 10.
* Answers in the back of the textbook
ADDITIONAL PROBLEMS
1. a. Assume that Mexico is relatively labor-abundant and the U.S. is relatively capital-abundant. Assume that the production of airplanes is relatively
capital-intensive and that the production of clothing is relatively labor-intensive.
Using the Heckscher-Ohlin Model, fill in the following chart:
Product of comparative advantage:
U.S. MEXICO
TRADE: Change in relative (and absolute) price of airplanes
TRADE: Change in relative (and absolute) price of clothing
TRADE: Change in production of airplanes
TRADE: Change in production of clothing

2 b. FOCUS ON THE U.S. Suppose that in the short-run, both labor and capital are immobile between industries. Show what happens to the wage rate
(w) and the rental rate of capital (r) in each industry in the short-run after
trade begins.
U.S. AIRPLANE INDUSTRY
w A S
L
w C
U.S. CLOTHING INDUSTRY
S
L
w
1
A r
r
1
A
A
A
S
K
A
Summarize in the chart below:
D
L
D
K
A
L
K
A
w
r
r
1
C
1
C
C
A
S
K
D
L
A
D
K
C
L
K
C
Short-run change in w
Short-run change in r
U.S. AIRPLANE INDUSTRY U.S. CLOTHING INDUSTRY
Which groups in the U.S. will favor free trade with Mexico and which will oppose it in the short-run?

3 c. FOCUS ON THE U.S. Suppose that in the long-run, both labor and capital are mobile between industries. Show what happens to the wage rate (w) and the rental rate of capital (r) in the long-run after trade begins.
U.S. LABOR MARKET U.S. CAPITAL MARKET
w S
L
r S
K
w
1
A
Summarize in the chart below:
D
L
L
r
1
A
D
K
K
Long-run change in w
Long-run change in r
U.S. AIRPLANE INDUSTRY U.S. CLOTHING INDUSTRY
Which groups in the U.S. will favor free trade with Mexico and which will oppose it in the long-run?

4 d. FOCUS ON MEXICO. Suppose that in the short-run, both labor and capital are immobile between industries. Show what happens to the wage rate
(w) and the rental rate of capital (r) in each industry in the short-run after
trade begins.
MEXICAN AIRPLANE INDUSTRY MEXICAN CLOTHING INDUSTRY
w A S
L
w C S
L
w
1
A A
D
L
w
1
C A
D
L r
r
1
A
A S
K
A
Summarize in the chart below:
L
D
K
A
K
A
r
r
C
1
C
L
S
A
K
D
K
C
K
C
Short-run change in w
Short-run change in r
MEX. AIRPLANE INDUSTRY MEX. CLOTHING INDUSTRY
Which groups in Mexico will favor free trade with the U.S. and which will oppose it in the short-run?

5 e. FOCUS ON THE MEXICO. Suppose that in the long-run, both labor and capital are mobile between industries. Show what happens to the wage rate (w) and the rental rate of capital (r) in the long-run after trade begins.
MEXICAN LABOR MARKET MEXICAN CAPITAL MARKET
w S
L
r S
K
w
1
A
Summarize in the chart below:
D
L
L
r
1
A
D
K
K
Long-run change in w
Long-run change in r
MEX. AIRPLANE INDUSTRY MEX. CLOTHING INDUSTRY
Which groups in Mexico will favor free trade with the U.S. and which will oppose it in the long-run?

6
2. a. Assume that Mexico is relatively labor-abundant and Canada is relatively land-abundant (N stands for land). Assume that the production of
wheat is relatively land-intensive and that the production of clothing is relatively
labor-intensive. Using the Heckscher-Ohlin Model, fill in the following chart:
CANADA MEXICO
Product of comparative advantage:
TRADE: Change in relative (and absolute) price of wheat
TRADE: Change in relative (and absolute) price of clothing
TRADE: Change in production of wheat
TRADE: Change in production of clothing

7 b. FOCUS ON CANADA. Suppose that in the short-run, both labor and land (N) are immobile between industries. Show what happens to the wage rate
(w) and the rental rate of land (n) in each industry in the short-run after
trade begins.
CANADIAN WHEAT INDUSTRY
w Wh S
L
CANADIAN CLOTHING INDUSTRY
w C S
L
w
1
Wh
n Wh
n
1
Wh
A
S
N
A
Summarize in the chart below:
D
L
D
N
L
Wh
N
Wh
w
n
n
1
C
1
C
C
S
A
N
D
L
A
D
N
C
L
N
C
Short-run change in w
Short-run change in n
CAN. WHEAT INDUSTRY CAN. CLOTHING INDUSTRY
Which groups in Canada will favor free trade with Mexico and which will oppose it in the short-run?

8 c. FOCUS ON CANADA. Suppose that in the long-run, both labor and land (N) are mobile between industries. Show what happens to the wage rate (w) and the rental rate of land (n) in the long-run after trade begins.
CANADIAN LABOR MARKET CANADIAN LAND MARKET
w S
L
n S
N
w
1
A
Summarize in the chart below:
D
L
L
n
1
A
D
n
N
Long-run change in w
Long-run change in n
CAN. WHEAT INDUSTRY CAN. CLOTHING INDUSTRY
Which groups in Canada will favor free trade with Mexico and which will oppose it in the long-run?

9 d. FOCUS ON MEXICO. Suppose that in the short-run, both labor and land (N) are immobile between industries. Show what happens to the wage rate
(w) and the rental rate of land (n) in each industry in the short-run after
trade begins.
MEXICAN WHEAT INDUSTRY
w Wh S
L
MEXICAN CLOTHING INDUSTRY
w C S
L
w
1
Wh
n Wh
n
1
Wh
A
S
N
A
Summarize in the chart below:
D
L
D
N
L
Wh
N
Wh
w
n
n
1
C
1
C
C
A
S
N
D
L
A
D
N
C
L
N
C
Short-run change in w
Short-run change in n
MEX. WHEAT INDUSTRY MEX. CLOTHING INDUSTRY
Which groups in Mexico will favor free trade with Canada and which will oppose it in the short-run?

10 e. FOCUS ON THE MEXICO. Suppose that in the long-run, both labor and land
(N) are mobile between industries. Show what happens to the wage rate (w) and the rental rate of land (r) in the long-run after trade begins.
MEXICAN LABOR MARKET MEXICAN LAND MARKET
w S
L
n S
N
w
1
A
Summarize in the chart below:
D
L
L
n
1
A
D
N
N
Long-run change in w
Long-run change in n
MEX. AIRPLANE INDUSTRY MEX. CLOTHING INDUSTRY
Which groups in Mexico will favor free trade with Canada and which will oppose it in the long-run?

11
3. You pick up a newspaper and note that the owners of capital in a particular country are urging their government to restrict trade through the use of import quotas.
Considering the Stolper-Samuelson Theorem, what might you infer about the relative factor abundance in that country? Why?
4. Assume that you are employed by the Minister of Trade for a small country.
Considering your knowledge of the Heckscher-Ohlin Model and the Stolper-Samuelson
Theorem, how do you react to the following statements by your colleagues in business and government? a. Minister of Labor: “Since we are a very labor-abundant country, allowing free trade would lower wages making our people even poorer.” b. Union Leader: “Our country’s basic problem is that we have too many workers and not enough capital. Things won’t get any better until some of the workers emigrate to capital-abundant countries.” c. Owner of an Export Firm: “Free trade would make every individual in the country better off.”
ANSWERS TO PROBLEMS IN TEXT (The answers to those problems with stars are in the back of the book)
2. Not correct. The factor price equalization theorem holds for each type of income across countries (not every type of income within a given country, as the statement says). The theorem says that free trade leads to the same real wage rate for labor (of a given type or skill) across countries. It also says that free trade leads to the same real rental rate of land across countries. It doesn’t say that free trade will lead to the same real incomes for labor and land in the same country.
4. (Read page 86 in the textbook). First you might point out that stopping trade would eliminate exports, so that many jobs would be lost in export industries. It is not clear that there would be a net gain in jobs, and any net gain would likely be small. In any event, total employment in a nation is a macroeconomic concern. If any policy
(free trade or elimination of trade) reduces the number of jobs, the monetary authority
(the Federal Reserve) can use expansionary monetary policy to increase the number of jobs. Second, trade (exporting and importing) increases the overall economic wellbeing of the average consumer. Trade allows us to sell some of our products as exports. These exports are used to pay for imports. Imports allow us to expand our consumption by giving us access to low-priced goods (and to goods we cannot or do not produce domestically).
10. According to Figure 5.3 in the textbook, Japan is relatively abundant in physical capital, highly skilled labor, and medium-skilled labor. Japan is relatively scarce in

12 unskilled labor and arable and forest land. Japan is also relatively scarce in natural resources generally.
The following appear to be consistent with the H-O Theory:
 Substantial net importer of:
 Food (land-intensive)
 Metal ores and petroleum and petroleum products (natural resource intensive)
 Clothing and accessories and shoes and other footwear (unskilled labor intensive)
 Substantial net exporter of:
 Iron and steel (physical capital intensive)
 Automobiles (capital intensive and somewhat skilled labor intensive)
The following appear to be inconsistent with the H-O Theory:
 Japan imports a relatively large amount of pharmaceuticals relative to its exports. This seems inconsistent because pharmaceutical production is generally skilled labor intensive.
 The net imports of aircraft are inconsistent because aircraft are intensive in skilled labor.
 Since medical instruments are skilled labor intensive, the net imports of them seem inconsistent.
ANSWERS TO ADDITIONAL PROBLEMS
1. a.
U.S. airplanes
MEXICO clothing Product of comparative advantage:
TRADE: Change in relative
(and absolute) price of airplanes
TRADE: Change in relative
(and absolute) price of clothing
TRADE: Change in production of airplanes
TRADE: Change in production of clothing increase decrease increase decrease decrease increase decrease increase b.
Short-run change in w
Short-run change in r
U.S. AIRPLANE INDUSTRY increase increase
U.S. CLOTHING INDUSTRY decrease decrease
Labor and capital in airplanes will favor trade; labor and capital in clothing will be opposed.

13 c.
Long-run change in w
Long-run change in r
U.S. AIRPLANE INDUSTRY decrease increase
U.S. CLOTHING INDUSTRY decrease increase
Labor (in both industries) will be opposed to trade; capital (in both) will favor trade. d.
Short-run change in w
Short-run change in r
MEX. AIRPLANE INDUSTRY decrease decrease
MEX. CLOTHING INDUSTRY increase increase
Labor and capital in airplanes will oppose trade; labor and capital in clothing will favor trade. e.
MEX. CLOTHING INDUSTRY increase decrease
Long-run change in w
Long-run change in r
MEX. AIRPLANE INDUSTRY increase decrease
Labor will favor trade; capital will oppose trade
2. a.
Product of comparative advantage:
TRADE: Change in relative
(and absolute) price of wheat
TRADE: Change in relative
(and absolute) price of clothing
TRADE: Change in production of wheat
TRADE: Change in production of clothing
CANADA wheat increase decrease increase decrease
MEXICO clothing decrease increase decrease increase b.
Short-run change in w
Short-run change in n
CAN. WHEAT INDUSTRY increase increase
CAN. CLOTHING INDUSTRY decrease decrease
Labor and land in wheat favor trade; labor and land in clothing oppose trade. c.
Long-run change in w
Long-run change in n
CAN. WHEAT INDUSTRY decrease increase
Land favors trade; labor opposes trade. d.
Short-run change in w
Short-run change in n
MEX. WHEAT INDUSTRY decrease decrease
CAN. CLOTHING INDUSTRY decrease increase
MEX. CLOTHING INDUSTRY increase increase
Labor and land in wheat oppose trade; labor and land in clothing favor trade.

14 e.
Long-run change in w
Long-run change in n
MEX. AIRPLANE INDUSTRY increase decrease
MEX. CLOTHING INDUSTRY increase decrease
Labor favors trade; land opposes trade.
3. Stolper-Samuelson Theorem: Income will be distributed away from the relatively scarce factor. Since capital is in favor of restricting imports, capital must be the relatively scarce factor.
4. a. A labor-abundant country, on opening trade, would specialize in producing the labor-intensive good. The result would be a rise in wages, not a fall. b. Emigration (a decrease in the supply of labor) would raise wages, but so would allowing free trade in this case. If a labor abundant country trades, increased production of labor intensive goods will raise wages. c. Although free trade increases the amount of goods available for consumption, it also alters rates of return to factors and changes the distribution of income. Some individuals will be made worse off (though the gains to the “winners” will outweigh the losses to the “losers.”)