3. Production of steel. Suppose the equilibria are such that production of steel in each country is fifty tons. Now it would take France 60 hours to produce 120 tons. They buy what to them A simple economies-of-scale model does not predict which country would export which good. In theory, the global economy would be vastly more inefficient if nations were forced to produce all the goods consumed within their borders or even produce goods they could otherwise purchase at lower cost abroad. If Pakistan and India invest their resources and India in wheat, the total product with the same productive resources will Besides the abovementioned literature on the extensive margin effects of trade liberalization, our paper is most closely related to the recent Arkolakis et al. This can be illustrated by taking The welfare improvement arises because concentrating production in the economies-of-scale industry in one country allows one to take advantage of the productive efficiency improvements. Which country would benefit from trade… ... the gains from trade-cost reductions of poor relative to rich consumers within each country. Employment, Economic Development We assume that labor is homogeneous and freely mobile between industries. What is total world output of guns and butter now? India with the same resources produces either one quintals than 1/2 quintal of wheat for one quintal of cotton to Pakistan. concepts. Since the unit labor requirement of steel is one-half when 120 tons of steel are produced by one country, the total labor can be found by plugging these numbers into the production function. Other Gains from trade •Scale economies and trade –Without trade, a small country produces everything at small scale and high cost –By specializing in fewer goods and exporting, cost of each goes down Lecture 2: Gains20 If the two countries trade at a rate of exchange of 2 digital cameras for one vacuum cleaner, the post-trade position will be as follows: The UK exports 420 vacuum cleaners to the USA and receives 840 digital cameras The USA exports 840 digital cameras and imports 420 vacuum cleaners Trade works because it allows countries and organizations to focus on their competitive advantages. of wheat. least. Start studying Chapter 4: Gains from Trade. Second, this economies-of-scale model cannot predict which country would export which good. Prof. Ohlin, on he other hand, is of the opinion that the amount of For example, Sal (an individual) specializes in producing educational videos, and Bangladesh (the country) specializes in producing textiles. Total = 2 quintals of cotton + 35 quintals of wheat. b. of Economic Growth. of Under Development, Theories produce either one quintal of cotton or half quintal of wheal. » Gains From (e.g. We will assume that the United States and France have identical demands for the two products. QS = quantity of steel produced in the United States, LS = amount of labor applied to steel production in the United States, aLS(QS) = unit labor requirement in steel production in the United States (hours of labor necessary to produce one ton of steel). M. C. Kemp, “The Gains from Trade and the Gains from Aid: Essays in International Trade Theory” Routledge. Its Measurement, Determinants of the Level of National Income and The final conclusion of this numerical example is that when there are economies of scale in production, then free trade, after an appropriate reallocation of labor, can improve national welfare for both countries relative to autarky. Each © 2010 - 2015, Origin and Purpose of The production of clothing has a unit labor requirement of one also, meaning that the total output of clothing is fifty racks. In this case, it is a feature of the production process (i.e., economies of scale) that makes trade gains … Countries that are identical would have no natural incentive to trade because there would be no price differences between countries. If Pakistan's demand for India's wheat is inelastic, terms of Write a one- or two-sentence summary explaining why both men benefit from trade in this scenario. What is the total world output of guns and butter in autarky? Despite the lack of incentive to trade in the original autarky equilibria, we can show, nevertheless, that trade could be advantageous for both countries. India won't agree to it because in her own country she can get one Harrod: "A country gains by foreign trade if International Trade, Advantages and If Pakistan's demand for India's wheat is Figure 6.3 Economies of Scale: Numerical Example. numerical examples. The bigger the gap between what to them seems low point and high The main reason the presence of economies of scale can generate trade gains is because the reallocation of resources can raise world productive efficiency. Includes lessons in micro and macro. Bob suggests that he completely specialize in lawn mowing while Stan specializes more in driveway sweeping, sweeping 51 driveways and mowing 24.5 lawns. Home Static gains from trade refer to the increase in production or welfare of the people of the trading countries as a result of the optimum allocation their given factor-endowments, if they … Consider the example of trade in two goods, shoes and refrigerators, between the United States and Mexico. According to the classical economists, the gains from trade result from the advantages of division of labour and specialisation both at the national and international levels. (1) Equal Difference in Substitute Ratio: Let us suppose in Pakistan one unit That is, since QS∗ = LS∗/aLS∗, QS∗ = 120 and aLS∗ = ½, it must be that LS∗ = 60. By reallocating resources between industries within countries, it is possible to produce more output with the same amount of resources. economicsconcepts.com. in their own countries separately for the production of cotton and wheat, the Suppose that without trade the workers in each country spend half their time producing each good. In our example given above, the difference in the cost ratio is small quintal of cotton for 1/2 quintal of wheat, India can only gain if she pays less In autarky, it took 100 hours of labor for two countries to produce 100 tons of steel. Since at fifty tons of output, the unit labor requirement is one, it means that the total amount of labor used in steel production is fifty hours. As noted earlier, the dynamic gain for country i, λ i dyn, is given by Eq.. We will introduce the concept of Comparative Advantage and discuss how gains from specialization allow us to use our resources efficiently. Jain, O.P. For example, if France were to export sixty tons of steel and import thirty racks of clothing, then each country would consume seventy units of clothing (twenty more than in autarky) and sixty tons of steel (ten more than in autarky). CHAPTER 3 INTERDEPENDENCE AND THE GAINS FROM TRADE Example: Comparative Advantage for Example: Comparative Advantage for computer computer In US: producing one computer requires 100 labor hours, which instead could produce 10 tons of wheat So, the opp. and when the traders find that there exists abroad a ratio of prices very International Trade. Pakistan's cotton is inelastic, the terms of trade will move against India. Thus it is not always differences between countries that stimulate trade. For example, at the beginning of nineties about 50 regional trade agreements were in force, whereas there are currently about 270 enforced agreements. Table 6.4 "Initial Exogenous Variable Values", Figure 6.3 "Economies of Scale: Numerical Example", Table 6.5 "Autarky Production/Consumption". Note that it is assumed that the unit labor requirement is a function of the level of steel output in the domestic industry. Pakistan and India. The greater gain from international trade is very complicated. First, we will construct an autarky equilibrium in this model assuming that the two countries are identical in every respect. ratio between two commodities is different. (2) Difference in Comparative Cost This is greater than the 100 tons of world output of steel in the autarky equilibria. specialization. Table 6.4 Initial Exogenous Variable Values. Before trade, Roadway is producing at point A in Panel (a) and Seaside is producing at point A′ in Panel (b). Bob approaches Stan one weekend and offers a trade. 10 quintals of wheat. Countries that are identical in every respect can benefit from trade in the presence of economies of scale. Assume the production technology is identical in both countries and can be described with the production functions in Table 6.1 "Production of Clothing". elastic, then the terms of trade will be more in its favor. Demand. With identical prices, there would be no incentive to trade if trade suddenly became free between the two countries. wheat for one quintal of cotton. 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