Chapter 3 Specific Factors and Income Distribution
Chapter 3 ▪ Specific Factors and Income Distribution
Chapter Organization Introduction The Specific Factors Model International Trade in the Specific Factors Model Income Distribution and the gains from Trade The Political Economy of Trade: A Preliminary View Summary Appendix: Further Details on Specific Factors Copyright C 2003 Pearson Education, Inc Slide 3-2
Copyright © 2003 Pearson Education, Inc. Slide 3-2 ▪ Introduction ▪ The Specific Factors Model ▪ International Trade in the Specific Factors Model ▪ Income Distribution and the Gains from Trade ▪ The Political Economy of Trade: A Preliminary View ▪ Summary ▪ Appendix: Further Details on Specific Factors Chapter Organization
Introduction Trade has substantial effects on the income distribution within each trading nation a There are two main reasons why international trade has strong effects on the distribution of income Resources cannot move immediately or costlessly from one industry to another Industries differ in the factors of production they demand a The specific factors model allows trade to affect income distribution Copyright C 2003 Pearson Education, Inc Slide 3-3
Copyright © 2003 Pearson Education, Inc. Slide 3-3 Introduction ▪ Trade has substantial effects on the income distribution within each trading nation. ▪ There are two main reasons why international trade has strong effects on the distribution of income: • Resources cannot move immediately or costlessly from one industry to another. • Industries differ in the factors of production they demand. ▪ The specific factors model allows trade to affect income distribution
The Specific Factors Model Assumptions of the model Assume that we are dealing with one economy that can produce two goods, manufactures and food There are three factors of production; labor(L), capital(K)and land(T for terrain) Manufactures are produced using capital and labor(but not land) Food is produced using land and labor(but not capital) Labor is therefore a mobile factor that can be used in either sector Land and capital are both specific factors that can be used only in the production of one good Perfect Competition prevails in all markets Copyright C 2003 Pearson Education, Inc Slide 3-4
Copyright © 2003 Pearson Education, Inc. Slide 3-4 ▪ Assumptions of the Model • Assume that we are dealing with one economy that can produce two goods, manufactures and food. • There are three factors of production; labor (L), capital (K) and land (T for terrain). • Manufactures are produced using capital and labor (but not land). • Food is produced using land and labor (but not capital). – Labor is therefore a mobile factor that can be used in either sector. – Land and capital are both specific factors that can be used only in the production of one good. • Perfect Competition prevails in all markets. The Specific Factors Model
The Specific Factors Model How much of each good does the economy produce? The economy 's output of manufactures depends on how much capital and labor are used in that sector This relationship is summarized by a production function The production function for good X gives the maximum quantities of good X that a firm can produce with various amounts of factor inputs For instance, the production function for manufactures (food) tells us the quantity of manufactures(food) that can be produced given any input of labor and capital (land) Copyright C 2003 Pearson Education, Inc Slide 3-5
Copyright © 2003 Pearson Education, Inc. Slide 3-5 • How much of each good does the economy produce? – The economy’s output of manufactures depends on how much capital and labor are used in that sector. • This relationship is summarized by a production function. • The production function for good X gives the maximum quantities of good X that a firm can produce with various amounts of factor inputs. – For instance, the production function for manufactures (food) tells us the quantity of manufactures (food) that can be produced given any input of labor and capital (land). The Specific Factors Model
The Specific Factors Model The production function for manufactures is given by OM=OM(K, LM) (3-1) where OM is the economy's output of manufactures K is the economy 's capital stock LMis the labor force employed in manufactures The production function for food is given by OF-OF(T 3-2 where Q F IS the economy s out tput of food Tis the economy's supply of land LF is the labor force employed in food Copyright C 2003 Pearson Education, Inc Slide 3-6
Copyright © 2003 Pearson Education, Inc. Slide 3-6 • The production function for manufactures is given by QM = QM (K, LM) (3-1) where: – QM is the economy’s output of manufactures – K is the economy’s capital stock – LM is the labor force employed in manufactures • The production function for food is given by QF = QF (T, LF ) (3-2) where: – QF is the economy’s output of food – T is the economy’s supply of land – LF is the labor force employed in food The Specific Factors Model
The Specific Factors Model The full employment of labor condition requires that the economy-wide supply of labor must equal the labor employed in food plus the labor employed in manufactures t Le We can use these equations and derive the production possibilities frontier of the economy Copyright C 2003 Pearson Education, Inc Slide 3-7
Copyright © 2003 Pearson Education, Inc. Slide 3-7 • The full employment of labor condition requires that the economy-wide supply of labor must equal the labor employed in food plus the labor employed in manufactures: LM + LF = L (3-3) • We can use these equations and derive the production possibilities frontier of the economy. The Specific Factors Model
The Specific Factors Model Production possibilities To analyze the economy's production possibilities, we need only to ask how the economy's mix of output changes as labor is shifted from one sector to the other Figure 3-1 illustrates the production function for manufactures Copyright C 2003 Pearson Education, Inc Slide 3-8
Copyright © 2003 Pearson Education, Inc. Slide 3-8 ▪ Production Possibilities • To analyze the economy’s production possibilities, we need only to ask how the economy’s mix of output changes as labor is shifted from one sector to the other. • Figure 3-1 illustrates the production function for manufactures. The Specific Factors Model
The Specific Factors Model Figure 3-1: The Production Function for Manufactures Output, QM QM=QM( K, Lm) Labor input, LM Copyright C 2003 Pearson Education, Inc Slide 3-9
Copyright © 2003 Pearson Education, Inc. Slide 3-9 QM = QM (K, LM) Figure 3-1: The Production Function for Manufactures The Specific Factors Model Labor input, LM Output, QM
The Specific Factors Model The shape of the production function reflects the law of diminishing marginal returns Adding one worker to the production process(without increasing the amount of capital) means that each worker has less capital to work with Therefore. each additional unit of labor will add less to the production of output than the last Figure 3-2 shows the marginal product of labor, which is the increase in output that corresponds to an extra unit of labor Copyright C 2003 Pearson Education, Inc Slide 3-10
Copyright © 2003 Pearson Education, Inc. Slide 3-10 • The shape of the production function reflects the law of diminishing marginal returns. – Adding one worker to the production process (without increasing the amount of capital) means that each worker has less capital to work with. – Therefore, each additional unit of labor will add less to the production of output than the last. • Figure 3-2 shows the marginal product of labor, which is the increase in output that corresponds to an extra unit of labor. The Specific Factors Model