Question

According to the Stolper-Samuelson theorem, if a country opens up to trade and starts to export a product made relatively intensively with labor, does the labor intensity of production of that relatively labor-intensive product rise, fall or stay the same in that country? What happens to the labor intensity of production of the other product, which is made relatively intensively with capital? Why?

Answer 1

According to Stolper Samuelsom theorem, a rise in the price of the item would lead to a rise in the returns of the factor of production which is used more intensively in the production of that good and a fall in the price of other item, would lead to a fall in the returns of the factor of production which is used more intensively in the production of that good.

As the country opens up to trade and starts to export a product made relatively intensively with labor, the demand of the product rises in the market. As a result, the labor intensity of production of that relatively labor intensive product also rises.

According to equation

P(A) = aw + bi

where P(A) stands for the price of Product A, w is the wages paid to labor, i is the interest paid on capital, a and b stand for amount of labor and capital used.

So as the price and amount of A increases, the labor intensity of production of that relatively labor intensive product also rises.

In order to compensate for the same and to balance the equation, the labor intensity of production of the other product, which is made relatively intensively with capital falls.