WHO GAINS AND

WHO LOSSES FROM

TRADE?
 Recall the H-O
Theory
• A country will export products that use relatively intensively those
production factors found relatively abundantly in the country, and
import products that use relatively intensively those production factors
that are relatively scarce in the country.

• Trade arises from differences in the availability of factor input in

different countries and differences in the proportions which these
factors are used in producing different products.
 Recall the H-O
Theory
• We have used two terms: factor-abundance and factor-intensity.

• Labour abundant – higher ratio of the labour factor to other

factors than ROW.

• Labour-intensive – labour costs are a greater share of the value

of the product than the value of the other factors.
 H-O
Theory
• Offers realistic predictions of how trade affects the incomes of
groups representing different factors of production (eg. Landlord,
workers).

• International Trade divides society into gainers and losers from

trade because of the relative product prices which would raise the
reward to some factors and lower the reward to others. (Recall
Derived Demand).
What will we
examine
• Examines the implications for factor incomes of trade that follows
the Heckscher-Ohlin (H-O) theory.

• Examine the Stolper Samuelson Theorem

Who Gains and Who losers within a Country
• Short-Run Effects on Incomes. Assume USA exports Wheat
(from previous lecture discussions).

• – In SR, labour, plots of land and other inputs are tied to their current lines
of production.

• – Opening to trade will enable groups in the expanding sector to receive

higher incomes.

• – For example in a country where wheat is the expanding sector, landlords

in the wheat growing areas can charge higher rentals.

• – Wheat farm workers can also demand and get higher wages.

•
Who Gains and Who losers within a
Country
• The sellers of factors to declining industries: cloth workers, landlords
supplying cloth industry, foreign wheat landlords and farmhands
lose incomes through reduced demand, thereby reducing their prices.

• All groups which are tied to the growing sectors gain and groups tied
to the declining sectors will lose.
Who Gains and Who losers within a
Country
• Long-Run Effect

• – In LR, factors can move between sectors in response to

differences in return.

• – Income gaps open up in the short run.

• – US cloth workers will find better paying jobs in the wheat sector.

• – As the supply of labour increases in the wheat sector, wages in the

wheat sector declines.
Who Gains and Who losers within a
Country
• The supply of labour to the cloth sector shrinks. Wages in the
cloth sector increases.

• Some of US’s cloth and wool raising land will get better rents
by converting to wheat-related production.

• Similar adjustments are going to happen in the foreign cloth

sector.
Who gains and Who loses within a
Country.
• When all adjustments have taken place in the LR, wage rates will end
up lower for all US workers and higher for all foreign workers–
relative to the pre-trade levels.

• This crucial results is due to the imbalance in the changes in factor

supply and demand.

• Wheat growing is more land intensive and cloth is labour intensive.

• The amounts of factors hired in the expanding sector will fail to

match up the amounts released from the other sectors.
Who gains and Who loses within a
Country.
• The imbalance creates pressures on factor prices to adjust.
• In country A, wheat production creates demand for a lot of land and
very few workers.
• Cutting down cloth production releases a lot of workers and not so
much land.
• There is an excess of labour, thereby, cutting wages throughout the US
economy.
• Land rents will be higher and wages lower than before trade opened up
in US.
How Free Trade Affects Income Distribution in
the Long Run: The Whole Chain of Influence
Winners and Losers: Short Run versus Long
Run
Implications of H-O
Theory
To understand the implications of H-O Theory we examine the
Stolper- Samuelson Theorem. (SST).

In understanding the SST Theorem we will look at:

• Specialized-Factor Pattern

• Factor Price-Equalization Theorem

 Implications of H-O Theorem
• The Stopler – Samuleson Theorem

• The theorem states (under some assumptions) that an event that

changes product prices in a country has two effects:

• It raises the return to the factors used more intensively in the

rising price industry.

• It lowers the return to the factor used in the falling price

industry.
Implications of H-O Theorem
• A shift from no trade to free trade is an event that changes product prices.
For instance in our example, the opening of trade increases the relative price
of wheat in the United States. The Stolper- Samuelson theorem then
predicts a rise in real income of owners of land (the factor used intensively
in producing wheat) and a decline in real income of providers of labor (the
factor used intensively in producing cloth). In the rest of the world, the real
income of labor increases and the real income of landowners decreases.

• Opening trade must enable one of the two factors to buy more of either
good. It will make the other factor poorer in its ability to buy either goods.
Implications of H-O Theorem
• The Specialized – Factor Pattern

• – The more a factor is specialized or concentrated in the production of the

product whose relative price is rising, the more this factor stands to gain
from the change in the product price.

• – The more a factor is concentrated into the production of product whose

relative price is falling, the more it is going to lose from the change in the
product price.

• This applies both in the short run and in the LR.

Implications of H-O Theorem
• Factor-Price Equalization Theorem.

• This is about the effect of trade on international differences in factor prices.

– This theorem states that ( under some conditions and assumptions) that free
trade equalizes not only product prices across countries but also the prices of
individual factors.

• – Labour who have the same skills will earn the same wage rate in both
countries.
Implications of H-O Theorem
• Units of land of comparable quality can earn the same rental in both
countries.

• Factor price equalization theorem implies that labour will end up with
the same wage in all countries.

• Trade makes this possible, even when labour is not allowed to migrate.
They are implicitly shipped in commodity form.
END