Question

Assume a two-country, two-good, two-factor of production world where the following relationships hold:

(K/L)US > (K/L)ROW (K/L)automobiles > (K/L)shoes

Where (K/L)US is the capital-labor ratio in the United States, (K/L)ROW is the capital-labor ratio in the Rest of the World, (K/L)automobiles is the capital-labor ratio in the production of automobiles, and (K/L)shoes is the capital-labor ratio in the production of shoes. Assume further that technology and tastes are the same in the United States and the Rest of the World.

1.The relationships shown above indicate that in the United States the price of automobiles relative to shoes is:
A. Higher than in the Rest of the World.
B Lower than in the Rest of the World.

C. The same as in the Rest of the World.
D. It is impossible to compare the prices with the information provided.

2. According to the Stolper-Samuelson theorem, the opening of trade between the United States and the Rest of the
World should lead to:
A. Higher wages in both countries.

B. Lower wages in both countries.
C. Higher wages in the Rest of the World and lower wages in the United States. D. Lower wages in the Rest of the World and higher wages in the United States.

Answer 1

1). The correct option is (b).

Lower than in the rest of the world.

The price of automobiles in USA is less than the rest of the world because USA is capital abundant country.

2). The correct answer is (a).

Higher wages in both countries.

When the two countries engage in interrnational trade it will lead to higher wages in both countries.The Stolper-Samuelson Theorem argues that free trade benefits the factor of production that is relatively abundant (such as capital in US) and harms the locally scarce factor (such as labor in the US) regardless of industry in which it is employed.

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