Problem Set 2

1.	THE HECKSCHER-OHLIN TRADE MODEL. Consider South Korea, a small country which starts out as relatively labor-abundant.
	a.	State the Heckscher-Ohlin (HO) theorem. What does it predict for South Korea's pattern of trade?
	b.	Suppose that South Korea promotes a high rate of domestic savings and capital formation. Could growth of this type eventually reverse South Korea's direction of trade? Explain briefly.

2.	THE STOLPER-SAMUELSON (SS) THEOREM (Note: 'Labor' in this question means 'unskilled labor'.)
	a.	State the Stolper-Samuelson theorem. What would it predict would happen to the real income of labor as a result of Heckscher-Ohlin style free trade for each of the following countries: (1) a capital-abundant developed country and (2) a labor-abundant lesser developed country.
	b.	Decide whether the following is true or false according to the HO model, and explain: For a capital-abundant country such as the U.S., free trade will raise the price of labor in the country's export industries and lower the price of labor in the country's import-competing industries.

3.	APPLYING THE HECKSCHER-OHLIN MODEL: Briefly explain whether or not each of the following statements is consistent with the HO model:
	a.	Ross Perot, "The 1992 Campaign; Transcript of 3d TV Debate Between Bush, Clinton and Perot" New York Times, October 20, 1992: "You implement that Nafta, the Mexican trade agreement, where they pay people $1 an hour, have no health care, no retirement, no pollution controls, etc., etc., etc., and you're going to hear a giant sucking sound of jobs being pulled out of this country...."
	b.	Economists Martin Feldstein and Kathleen Feldstein, "Environmental Purists May be Mexico's Curse," Los Angeles Times , April 16, 1991: "Although U.S. labor unions are predictably concerned about the potential inflow of Mexican products and the 'loss of jobs' from the United States to Mexico, those concerns are largely misplaced.... American workers would benefit from the increased supply of lower-cost Mexican products and from increased U.S. sales to Mexico."

4.	EXPLAINING TRADE BEHAVIOR. The percentage breakdown of total international trade among market economies is:             Trade among developed countries (DCs): 58%             Trade among lesser developed countries (LDCs): 8%             Trade between DCs and LDCs: 34%
	a.	Which trade is most clearly accounted for by the HO model? Why?
	b.	What sort(s) of trade would you expect for DCs trading with other DCs?
	c.	Economist Paul Krugman has claimed that because of income distribution effects, DCs have been more willing to reduce trade barriers on products from other DCs than on products from LDCs. Do you agree? Why or why not?

5.	The following questions concern the supplementary reading, "A big factor in prescription drug pricing: Location, location, location."
	a.	Consider Passage A. Based on Varian's discussion of pricing strategies, do you think the proposed measure will be as effective in lowering drug prices as legislators intend? Why or why not?
	b.	Consider Passage B: What is the international economics term for the price discrimination strategy described in Passage B? Does Uganda gain or lose from it? Explain briefly.
	c.	Suppose that Uganda could produce the AIDS drug PLC itself, at an autarky price of $18. Depict this in a supply and demand diagram. Illustrate the consequences of the price discrimination strategy described in Passage B under these circumstances (assume that Uganda is a small country in the global PLC market). Is your conclusion from part b about whether Uganda gains or loses from it different now or not? Why or why not?

6.	SOURCES OF GAINS FROM TRADE: List some of the specific reasons that countries can gain from international trade.

7.	As usual, staple your work--stapling always carries the weight of one problem on each problem set.