II. A closer look at international trade
A. Factor endowments and international trade
3. The Stolper-Samuelson (SS) theorem (finish

    Worksheet

    Results of example: before trade:

    PK in Mexico is 60% higher than in US (+60%)
    PL in Mexico is 80% lower than in US (-80%)

    PA in Mexico is 18% higher than in US (+18%)
    PB in Mexico is 52% lower than in US (-52%)

General conclusions from the Four Fingers diagram Higher PK in Mex raises Mex product prices, especially for A which relies a lot on K. Lower PL in PL in Mex lowers product prices, especially for B which relies a lot on L. Why can't PA be > 60% higher in Mex? Why can't PB be > 80% lower in Mex? The price changes for all outputs lie between the input price changes since all goods use some of both inputs in production. Every product's price can be ranked: The more capital-intensive it is, the closer its price will be to PK.

    The move to free trade is not so much a race to the bottom. It's more like a race to the middle. Competition makes the difference.

With trade: As globalization occurs, output and input prices converge, and we can rank all four price changes in both countries
    Visually, the slope of each price line shows its rate of change

    In the US:
    (1) the purchasing power of K rises relative to both goods => the real price of K rises.
    (2) the purchasing power of L falls relative to both goods => the real price of L falls.

    The opposite occurs in Mexico

    The Stolper-Samuelson (SS) theorem: free trade raises the real income of a country's abundant factor and lowers the real income of the country's scarce factor.

    Evidence: mainly from the US:
    trade liberalization --> for each $1 of trade gains:
    K gains $6 and L loses $5. (NBER, Spr.92: Dani Rodrik)

    ? What about you personally--what does the model imply about how you should feel about free trade, anticipating graduation and entering the L-mkt?

   ? What should we do about it?

4. Real world applications

(1) Import-substitution industrialization (ISI)

    => low-income countries try to develop by promoting their import industries

    Why? avoid dependency
    Tried most in Latin America

    ISI => A labor-abundant country tries to produce capital-intensive goods
    HO and ISI worksheet

    Results of ISI:
        lower national income
        lower wages

    ISI imposes an upfront cost on countries that use it
    LDCs typically have relatively little capital to work with in the first place.
    ISI then takes that scarce capital and concentrates it in K-intensive industries.
    That leaves even less capital available for the rest of the economy to use, reducing the productivity and wages of workers, especially workers outside of the favored industries.

(2) Export-Led Industrialization (ELI)

Ex: consider what happens as a country grows, accumulating more K.

Example: Japan

Potential path to development:
    Step 1: Specialize according to your comparative advantage to maximize your current income.
    Step 2: Use your income to increase your physical and human capital.
    Result: Export-Led Industrialization can help change your comparative advantage over time.

    So, HO trade does not have to lock countries into a disadvantageous equilibrium