International Trade: Theory and Policy. Differences between countries. Lecture 8

1. International Trade: Theory and Policy

Lecture 8
November, 2016
Instructor: Natalia Davidson
Lecture is prepared by Prof. Sergey Kadochnikov, Natalia Davidson
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2. Topic 6. Differences between countries in relative endowment of specific production factors as the reason for international

trade: the Ricardo-Viner model
6.1. Fundamental assumptions and specific features of the Ricardo-Viner
model.
6.2. Interrelation between change in the production factor quantities and final
goods output.
6.3. The pattern of international trade in the Ricardo-Viner model.
6.4. Interrelation between change in final goods prices and production factor
prices.

3. Topic 6. The Ricardo-Viner model

Source: Feenstra, Taylor, Chapter 3, p. 71.

4. Topic 6. The Ricardo-Viner model

Source: Feenstra, Taylor, Chapter 3, p. 72.

5. Topic 6. The Ricardo-Viner model

Source: Feenstra, Taylor, Chapter 3, p. 73.

6. (6.1.) Structure of the Ricardo-Viner (R-V) model of international trade

Structure of the world economy:
2 countries (h, f);
All final goods are tradable;
Production factors are immobile between the countries.
Structure of the production sector:
2 industries that produce 2 final homogeneous goods (X, Y);
3 production factors, 1 is a homogeneous, non-specific resource, mobile between
industries (for example, labor - L), and 2 homogeneous, specific resources (for example,
capital specific for each industry - Rx, Sy), immobile between industries;
Countries differ in absolute endowment of specific resource; endowment of mobile
resource is the same for two countries: for example, Rxf>Rxh, Syf<Syh, Lf=Lh;
Specific features of the production technology:
CRS (an essential feature of functional dependence between production quantity and
the quantity of the resources used in production);
Technologies differ among the industries, but not among the countries.
Structure of the household sector:
Tastes are identical and homogeneous among the households and the countries.
Market structure:
Perfect competition on the markets of production factors and of final goods.

7. (6.1.) Exogenous parameters of the R-V model

(1) Exogenous parameters of the model :
Production technology - production functions :
Хh = fxh(Rxh, Lxh) = ARxh Lxh(1- ); Yh = fyh(Syh, Lyh) = BSyh Lxh(1- );
Хf = fxf(Rxf, Lxf) = ARxf Lxf(1- ); Yf = fyf(Syf, Lyf) = BSyf Lxf(1- ); where
А В, .
Resource endowment in each economy: Rxh, Rxf, Syh, Syf, Lh, Lf;
Preferences of representative household in each of the economies – utility
functions:
Ui = Ui (Xi, Yi); i = h, f;
Market structure on the final goods markets – perfect competition.
Market structure on the resource market – perfect competition.

8. (6.1.) Endogenous parameters of the R-V model

(2) Endogenous parameters of the model :
Equilibrium production and consumption of final goods in closed
economies – Xha, Yha, Xfa, Yfa;
Equilibrium price ratios for final goods in closed economies – P xha/Pyha,
Pxfa/Pyfa;
Equilibrium production of final goods in the open economy – X ph*, Yph*,
Xpf*, Ypf*;
Equilibrium consumption of final goods in the open economy – Xсh*, Yсh*,
Xсf*, Yсf*:
If (Xc*-Xp*)>0 or (Yc*-Yp*)>0 – the good is imported;
If (Xc*-Xp*)<0 or (Yc*-Yp*)<0 – the good is exported;
Equilibrium world price ratio for final goods – Px*/Py*.

9. (6.1.) Specific features of the Ricardo-Viner (R-V) model

(1) The Ricardo-Viner model – a version of neoclassical general economic
equilibrium model.
(2) The main differences of R-V model from the other international trade
models are connected to the production sector.
(3) The Ricardo-Viner model is a model of medium term
(среднесрочного) adjustment of the economy to the exogenous shocks
*.
* Why ? (What are specific features of short, medium and long term adjustment?)

10. (6.1.) Specific features of the Ricardo-Viner (R-V) model

Source: Markusen,
Chapter 9, pp. 130–131.
Source: Feenstra, Taylor, Chapter 3, p. 60.

11. (6.2.) Interrelation between change in the production factor quantities and final goods output in the Ricardo-Viner model

Graphical illustration 1 – interrelation between changes in quantities of
specific resources and production quantities
Figure 1. Changes in quantities of the specific factor in the
specific factor model
Figure 1a. Total product and
marginal product curves for labor
Source: Markusen, Chapter 9, pp. 130–131.

12. (6.2.) Interrelation between change in the production factor quantities and final goods output in the Ricardo-Viner model

Graphical illustration 1 – interrelation between changes in quantities of
specific resources and production quantities: conclusion
Exogenous increase in the supply of a specific factor will lead to an increase in the
output of the commodity that uses this factor, and a decrease in the output of the other
commodity;
Besides, any expansion of the endowment of a specific factor at constant commodity
prices will lower the real return to both specific factors and increase the real return to
the mobile factor;
The key feature is immobility of the resource between industries (the resource is
specific), not resource intensity.
Source: Markusen, Chapter 9, pp.135–136.

13. (6.2.) Interrelation between change in the production factor quantities and final goods output in the Ricardo-Viner model

Graphical illustration 2 – interrelation between changes in quantities of mobile
(non-specific) resource and production quantities
Graphical illustration using a diagram with two curves representing marginal
revenues of production factors.
Figure 2. Endowment changes in the specific factor model
Source: Markusen, Chapter 9, pp.135–136.
Small open economy.
Commodity prices are fixed.
Point C: free trade
equilibrium.
1) Increase in the
endowment of S (factor
specific to Y)
=> growth of MPLY=> growth
of wy => labor flows to Y =>
Shift from point C to point T.
2) Increase in labor supply
(mobile factor)
Shift from point C to point Z.
“?” Logic behind this shift?
Hint: think about (1) ratio K/L
=> MP => real returns;
(2) nominal wage and prices
=> real returns.

14. (6.2.) Interrelation between change in the production factor quantities and final goods output in the Ricardo-Viner model

Graphical illustration 2 – interrelation between changes in quantities
of mobile (non-specific) resource and production quantities:
conclusion
Exogenous increase in the supply of mobile factor will lead to an increase in
the output of both commodities;
Besides, an increase in the endowment of the mobile factor will reduce its own
real income and increase the real income of both specific factors.
Look at Figures 1 and 2 and tell, if the Rybczynsky theorem holds in the Ricardo-Viner model?
Explain why.

15. (6.3.) The pattern of international trade (структура международной торговли) in the Ricardo-Viner model

• The main assumption for simplification of the international trade
structure analysis in the Ricardo-Viner model:
Countries differ in absolute endowment of specific production factors, mobile
resource endowment being the same: for example, Rxf>Rxh, Syf<Syh, Lf=Lh.

16. (6.3.) The pattern of international trade in the Ricardo-Viner model

Graphical illustration 3 – structure of international trade
in the Ricardo-Viner model
Using the diagram with two curves representing marginal revenues of
production factors.
Use the logic of Figure 1
to explain this diagram.
Hint: logic of
Rybczynsky theorem and
Heckscher-Ohlin
theorem. Figure 1:
increase in resource R
specific to X… Which
sector is ‘better off’ in the
economy and can trade
internationally?
Figure 3. The pattern of international trade in the specific factor model
Source: Markusen, Chapter 9, p. 131 and Feenstra, Taylor, Chapter 3, p. 59.

17. (6.3.) The pattern of international trade in the Ricardo-Viner model

Graphical illustration 3 – structure of international trade
in the Ricardo-Viner model
Using the diagram with 4 quadrants /More detail at the exercise session/
Figure 4. Production
possibility curve for the
specific factor model
Source: Markusen, Appendix,
pp. 452–453.
Explain the graph.

18. (6.3.) The pattern of international trade (структура международной торговли) in the Ricardo-Viner model

• The pattern of international trade in the Ricardo-Viner model:
conclusion
In the specific-factors model, each country will export the good with the
absolutely abundant stock of specific capital, assuming identical endowments of
labor, the mobile factor;
With differences in labor endowments, trade patterns will depend on the nature of
the production functions and on the allocation of capital (that is, on the stocks of
specific factors);
Unlike the Heckscher-Ohlin-Samuelson model, trade structure in the RicardoViner model depends on the immobile (specific) resource, not on the resource
intensity *.
* Which good is exported in the Heckscher-Ohlin-Samuelson model? What about Ricardo-Viner
model?

19. (6.4.) Interrelation between change in final goods prices and production factor prices

Graphical illustration - interrelation between change in final goods prices and
mobile / specific production factor prices
Using the diagram with two curves representing marginal revenues of production
factors;
Using the diagram with 4 quadrants /Exercise session/;
Figure 5. Autarky and free trade equilibria in the specific factor model
Source: Markusen, Chapter 9, p. 131 and Feenstra, Taylor, Chapter 3, p. 59.

20. (6.4.) Interrelation between change in final goods prices and production factor prices

Graphical illustration - interrelation between change in final goods
prices and mobile / specific production factor prices: conclusions
Exogenous increase in the commodity relative price results into
- increase in real return (real price) of the specific factor used in
production of this commodity,
- decrease in real price of the other specific factor and
- has an indefinite impact on the real return of the mobile factor;
The conclusions depend on the factor mobility versus factor specificity,
rather than factor intensities as in the H-O-S model.

21. (6.4.) Interrelation between change in final goods prices and production factor prices

Does the Stolper-Samuelson theorem hold in the Ricardo-Viner model?
The essential difference between medim- and long term effects from trade
liberalization policy measures from the view point of gains and losses for the
owners of production factors.
Explain this statement.
Does the factor price equalization theorem hold in the Ricardo-Viner model?
It does not hold.
Formulate factor price equalization theorem. Explain why it does not hold.
Source: Markusen, Chapter 9, pp.137.

22.

Homework
(1) Exercise session 5
(2) Think about topics for reports during exercise sessions; work on
presentation of the paper
Office hours: Friday 13:50 – 14:30, room 216.
E-mail: [email protected] (Наталья Борисовна Давидсон)
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23. Topic 7. International trade under increasing returns to scale and imperfect competition on the markets