International Trade: Evaluating Economic Theories and Trade Models

This assignment delves into the intricacies of international trade, beginning with an analysis of the correlation between openness and the GINI index in Paraguay and Poland, revealing a negative correlation implying that increased openness can decrease income inequality. It then explores the Stolper-Samuelson theorem, which examines the relationship between output prices and factor prices, emphasizing how trade can impact factor returns. The assignment further evaluates how this theorem aligns with the observed correlation coefficients, particularly in the context of labor-intensive techniques and potential unemployment among unskilled workers. Finally, it presents a detailed analysis of comparative advantage using supply and demand curves and production possibility frontiers, illustrating how countries can benefit from specializing in and exporting goods where they possess a comparative advantage, specifically examining trade between Home and Foreign countries in corn and radios.

Running head: INTERNATIONAL TRADE
International Trade
Name of the University
Name of the student
Author Note

1INTERNATIONAL TRADE
Table of Contents
Answer 1:...................................................................................................................................2
Answer 2:...................................................................................................................................2
Answer 3:...................................................................................................................................4
Answer 4:...................................................................................................................................4
a).............................................................................................................................................4
b)............................................................................................................................................6
c).............................................................................................................................................7
d)............................................................................................................................................7
e).............................................................................................................................................8
References:.................................................................................................................................9

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Answer 1:
a) Correlation Coefficient between openness and GINI Index:
Paraguay= -0.29186545
Poland= -0.600279982
It can be seen from the above table that both Paraguay and Poland have experienced a
negative correlation coefficient between openness and GINI coefficient. This implies that
income inequality can be decreased if openness is increased. In other words, when openness
is increased by 1%, income inequality is decreased by 0.29% for Paraguay and 0.60% for
Poland (Alesina, Michalopoulos & Papaioannou, 2016). Moreover, this linear relation
becomes stronger, when the absolute value of this relation tends to 1. Thus, Poland has
experienced a strong relationship between openness and GINI coefficient, while for
Paraguay; it has remained a moderate one.
This decreasing coefficient implies either the enhancing wage for unskilled workers
or decreasing wage for skilled workers or both. Through enhancing the openness, both
Paraguay and Portugal can experience income equality as GINI coefficient represents the
wage ration between skilled and unskilled workers while Poland can be influenced from
openness compare to that of Paraguay.
Answer 2:
The Stolper-Samuelson theorem describes a relationship between change in output
prices with their corresponding factor prices under the condition of zero economic profit and
positive production (Halliday, Lederman & Robertson, 2018). This theory is based on certain
assumptions, which are, two countries are producing two outputs with the help of only two

3INTERNATIONAL TRADE
O Wage
Rate of return
E
F
A
B
B1
inputs of production, for instance, with the help of labor and capital, two countries are
producing A and B.
According to this theory, under specific circumstances, where constant returns to
scale operates in a perfectly competitive market, the economic profit in long-run has become
zero, with equal number of inputs operate to produce equal number of outputs. In this
circumstance, some economic consequences can be occurred, for instance, increase in relative
price helps to increase the return of the most abundant factor in a production system. At the
same time, return of other factor decreases.
Figure 1: factor-price frontiers of two countries
Source: (created by author)
The Stolper-Samuelson theorem states that openness can increase the income of a
country’s abundant factor. This is depicted in figure 1, where, each firm of a country acts as
the price taker while the factor output ratio is also remained constant. In the above diagram,

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wage rental ratio of A and B are drawn, where at point E; they can achieve zero profit. A
follows labor intensive technique and B follows capital-intensive technique. Suppose, after
openness, the price of good B is increased, which in turn shifts the zero-profit line outward.
After shifting the equilibrium point from E to F, the price for capital has increased while that
for labor has decreased. Thus, after trade, when the price of capital-intensive technique has
increased, the price of that factor has also increased consequently. Thus, to reduce cost,
industry can substitute capital with labor.
Answer 3:
According to the Stolper- Samuelson theorem, the price of production intensive factor
increases, while for scarce factor decreases. As both countries are using unskilled labor
intensive technique, after trade, the wage for those workers of both countries can be increased
(Sampson, 2016).thus, according to this substitutable input case, each country now shift their
production technique from unskilled labor intensive to skilled labor intensive. However, this
interpretation violates the outcome of correlation coefficient between openness and GINI
index. Due to substation, huge numbers of unskilled workers face unemployment while few
amounts of skilled workers get the opportunity of employment. This can increase the income
inequality among skilled and unskilled labors in a country due to trade, which further violates
the concept of Stolper-Samuelson theorem. As both Paraguay and Poland have experienced a
negative correlation between openness and income inequality, they do not want to trade with
each other.
Answer 4:
a)
Individual spends 1/3 income on corn (C) and 2/3 income on radios (R), where price
of corn is Pc and price of radio is Pr. Hence,

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Qr/Qc
Pr/Pc
O
Relative demand curve for radio
Two countries are “Home” and “Foreign” (*)
Two goods produced Corn (C) and radio (R)
Fixed labor supplies, L= 30 and L*= 60, in each country.
Pr*Qr= 2/3 I
Pc* Qc= 1/3 I
Hence, Pr*Qr/Pc*Qc= 2/3 / 1/3
Qr/Qc= 2 Pc/Pr ….. (1)
Figure 2: relative demand curve for radio
Source: (created by author)
In diagram, horizontal axis measures relative quantity and vertical axis measures
relative price. The above equation1 has represented an inverse relation between Qr and Pr
(Kurokawa, Pang & Tang, 2016). Hence, the demand relative demand curve for radios to its
relative price is a downward sloping curve as shown below.

6INTERNATIONAL TRADE
Qr/Qc
Pr/Pc
O
World relative supply curve for radio
2/3
1/2
b)
The world relative supply curve of radio can be drawn in the same axis, where,
individual supply curve of each country is absent, for which it is impossible to discus about
the vertical line. In trade, the relative price may lie between
Figure 3: World relative supply curve for radio
Source: (created by author)
Under trade, the relative price may lie between autarky price ratio and foreign price
ratio.

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Qr/Qc
Pr/Pc
O
2/3
1/2 RS
RD
Pre/Pce
Qre/Qce
c)
Figure 4: World relative supply curve for radio
Source: (created by author)
In autarky condition, relative prices equate with opportunity costs. After trade,
positive amounts of each commodity are demanded by each country. Hence, in this situation,
the relative price may be equal to or remain between two country’s autarkic relative prices
(Kurokawa, Pang & Tang, 2016). Hence, when relative demand for radio intersects with the
world relative supply curve of that product, the corresponding equilibrium relative price and
relative quantity can be obtained.
d)
Country Corn Radio Labor
Home 2/3= 0.67 3/2=1.5 30
foreign 2/4=0.5 4/2=2 60
Under free trade, foreign country can enjoy comparative advantage in producing corn
and consequently can export the product while foreign country can enjoy comparative

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10
15
15 30
Corn
Radio
O
PPF(h)
PPF(f))
advantage in producing radio as it enjoys comparative advantage though both countries are
enjoying absolute advantage in producing corn (Taylor, 2017). From the autarky situation, it
can be analyzed that home country is producing radio by which amount and foreign country
is producing corn by which amount.
Figure 5: Production possibility frontier of both home and foreign country
Source: (created by author)
Hence, home country can produce 10 units of radio and foreign country can produce
30 units of corn.
e)
Here, foreign country is enjoying comparative advantage as it can produce and export
corn where the country is enjoying both absolute advantage and comparative advantage
(Taylor, 2017). On the other side, home country facing loss as it produces and exports radio
while the country is also facing comparative advantage in producing corn.

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References:
Alesina, A., Michalopoulos, S., & Papaioannou, E. (2016). Ethnic inequality. Journal of
Political Economy, 124(2), 428-488.
Halliday, T., Lederman, D., & Robertson, R. (2018). Tracking wage inequality trends with
prices and different trade models: evidence from Mexico. Review of World
Economics, 154(1), 47-73.
Kurokawa, Y., Pang, J., & Tang, Y. (2016). Exchange rate regimes and wage comovements
in a Ricardian model with money. Journal of International Economics, 102, 96-109.
Sampson, T. (2016). Assignment reversals: Trade, skill allocation and wage
inequality. Journal of Economic Theory, 163, 365-409.
Taylor, M. S. (2017). Comments on the “The Main Contribution of the Ricardian Trade
Theory” by Ronald W. Jones. In 200 Years of Ricardian Trade Theory (pp. 117-127).
Springer, Cham.