International Factor Movements

          Factor Price Equalization: Although factor are immobile between countries, free trade of commodities will equalize factor prices under certain conditions, i.e., w = w* and r = r*, in which case there are no incentives for factors to move between countries.

          FPE is a fragile theorem. In a world of many commodities and factors, free commodity trade may reduce the gap in factor prices between countries, but factor prices may not be completely equalized.

Commodity Price Equalization (Mundell, 1957) Assume commodity trade is prohibited. Then free factor mobility equalizes output prices.

We are considering a scenario which is diametrically opposite of the Heckscher-Ohlin scenario: Factors are mobile between countries but goods are not traded.

Free factor mobility insures factor price equalization. With identical technologies, commodity prices will also be equalized. That is, there is no need for commodity trade. In this case, factor mobility is a substitute for commodity trade.

w = w*, r = r*

p_i = w a_Li + r a_Ki = w* a*_Li + r* a*_Ki = p_i*.

That is, free factor mobility ensures that output prices are equalized in autarky. Thus, free factor mobility obviates the need for commodity trade.

• If we introduce an element of realism that transportation costs are positive and significant, then the world would be better off under international factor mobility. In the case of FT without factor mobility, transportation costs must be paid time after time. On the other hand, factors move only once.
• Even free trade may not completely equalize factor prices. In this case, there are gains from factor mobility (to be shown). International factor mobility guarantees a maximum value of world outputs.
• In the real world, FM may not completely eliminate factor price differentials because of noneconomic factors such as national price or preferences for domestic environment. FM may not elimiinate but only reduce autarky factor price differences between countries. In this case, FM may not eliminate trade completely, but will reduce trade volume between countries. FM is a substitute for free trade.

Robert Mundell (left) receiving his Nobel prize in economics in 1999.

Emperor Meiji with crown prince Taisho after the Russo-Japanese war (1904-5). Due to the decline of Tokugawa shogunate (shogun's military government), Emperor Meiji was able to reconsolidate emperor's power in January 1868, which event has since been called Meiji Ishin (Restoration). After the early death of his four older brothers due to alleged lead poisoning, a sickly son, Taisho Emperor (1911 - 1926) ascended to the throne and reigned only 15 years. Due to his inability to appear in public functions, the military seems to have regained power.

Little Boy, Imperial War Museum, London. According to Rainier Karlsch (Hitler's Bomb, March 2005) and The History Channel, just before his suicide in April 1945, Adolf Hitler donated two dirty bombs, functional atomic bombs, to Japan. The two bombs were loaded on a German submarine en route to Japan but the submarine (U-235) was intercepted by a US destroyer which found uranium oxide on it (Hitler's Last U-Boat U-234). A giant Japanese submarine was waiting for the two bombs, one of which was scheduled to be detonated over San Francisco on August 17, 1945, only 11 days after this little boy was dropped over Hiroshima (The History Channel). The bombs were used by the US to end the war immediately and thereby to minimize casualties on both sides. Had the war continued further, the anticipated American military casualties of Operation Downfall to invade Japan which was to begin on X-day (scheduled for November 1, 1945) was about 1.2 million with 400,000 fatalities. Japan's casualties were estimated to be ten times higher. Nevertheless, no more lives should be lost by another atomic bomb. During the first half of the 20th century, Japan was trying to expand its territory in Asia to control and ensure stable supply of resources for its people. Hitler also said that German population is growing and needs living space in Eastern Europe, and wrote in Mein Kampf, "Destiny points us towards Russia." To end the war quickly and to achive a shock effect, the US did not want to target only cities of military import like Hiroshima (2nd Army Headquarters) and Nagasaki (a shipyard), but also Kyoto and Yokohama. But General Stimson overruled the objections by another general; Kyoto was not only a cultural city but also he had a honeymoon there decades earlier and was an admirer (Edwin Reischauer). Hiroshima is also known for Hiroshima Peace Park, where Japanese people ring the peace bell once a year on August 6.s

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Gains from Capital Mobility

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In the 1960s many governments of LDCs restricted entry of foreign multinational firms, believing that foreign capital inflow will make LDCs dependent on America and Europe. Dependency Theory was developed in the late 1950s by Raul Prebisch, who was Director of the United Nations Economic Commission for Latin America. Dependency theory asserts that LDCs remain less developed because of their dependence on developed economies. They argue that profits or surpluses will be siphoned off by multinational corporations. The following graphical analysis refutes this dependency theory.

 

Functional distribution of Income
Let national income be a function of domestic capital and labor inputs, Y = F(K,L).

Labor income = wL = ”ABC

capital income = rK = rectangle BCKO.

Zero Profit implies: Y = wL + rK.

Total output = area of trapezoid, equal to the sum of the triangle (wL) and the rectangle (rK) in Figure 1.

Figure 1. Distribution of Income

In Figure 1, the vertical axis measures value of marginal product of capital (p x MP_K), which measures firms' demand for capital. The vertical line shows the economy's aggregate supply of capital. The intersection of these two lines determine the equilibrium interest rate in the economy.

Figure 2a. When capital is not mobile.

Figure 2. The Effect of Capital Mobility

Initially, interest rates are different due to capital immobility. Once capital is allowed to move freely, capitalists move their funds to the country where they earn higher interest income until interest rates are equalized (assuming identical risks).

Initial Situation (No Capital Mobility)

labor income = wL = ΔARF.

capital income = rK = rectangle rFKO.

Free Capital Mobilty

Labor income = wL = ΔABC

capital income = r*K = rectangle BEFr

Capital used in the domestic economy = OK"

Foreign investment of the home country = ΔK = K - K".

Foreign investment income = rectangle CEKK".

Gains from factor mobility (US) = ΔCEF (ball #11)

Gains from factor mobility (UK) = ΔCDE (ball #1)

International Labor Movement

Welfare of the host country

Not everyone benefits. (unskilled workers may lose)

Since some gain and others lose from any policy change, one can examine whether a representative citizen gains from allowing new immigrants.

 

Assume: (i) the HC produces only one good, Q
(ii) each resident owns 1/L units of capital and labor (K/L,1)

Question: Do home residents benefit from foreign immigration? Does GNP increase?

Yes. Typical firms will become more labor-intensive to take advantage of a lower wage-rental rate.

Figure 3. Gains from Immigration

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World Production Possibility

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Choose one point on the PPF of country A.
determine the relative price, p₁/p₂.
Put the PPF of country B at that point.
Determine the free trade prodution point of country B. This point C is one point along the world production possibility frontier.
Repeat this process to obtain the entire world PPF.

Figure 4. Derivation of the world PPF

 

World PPF with and without Factor Mobility

Figure 5. Two countries with different PPFs

Figure 6. World PPF

 

In the segment 2-3, factor prices are equalized. Thus, factor mobility does not enhance the world output in the region where factor prices are equalized..

However, outside this region, factor prices are not equalized, and allowing factors to move between countries can increase the world output. FM pushes the world production possibility fronter outward.

Figure 6a shows the effect of factor mobility when there is no region when FPE occurs. The smaller the region of FPE, the more factor mobility enlarges the WPF.

Labor Market Effects of Migration

Figure 7. The North versus the South

However, the North's national income increases because immigrants earn labor income. I = w(L +ΔL) + rK. Immigrants may depress domestic wage, but the overall effect on national income is positive (except for the case of immiserizing growth).

Producer (employee) surplus	the area below firm's demand curve for labor, above the market wage.
Worker's surplus	the area above the labor supply schedule below the market wage. (Alfred Marshall)

Assume that migration equalizes the wages in the North and the South.

 

 

Average Income Paradoxes of Migration

• If the immigrants have a lower income in the new country, their arrival lowers average income in the host country. (if the immigrants become nationals of the host country)
• If the same immigrants had lower than average income in the source country, their departure raises average income in that country.

Capital mobility: the source country owns the capital. Income from the capital outflow comes back to the source country.

Labor mobility: The nationality of immigrants changes. Their income stays in the host country (except remittances).

The source country also loses income (some of which could have been earned if the immigration was restricted).

Public Finance Effects

Source country

• Migrants do not pay taxes to the source country
• They do not receive public goods of the source country. Revenue loss generally exceeds the gains from reduced congestion of public services.
• income declines
• remittances increase

The source country had invested in the formation of human capital (public education). Thus, basically, outmigration is a brain drain.

Host country

• Immigrants are a fiscal burden, causing an increase in the service of public goods (e.g., in public schools)
• They pay taxes (this is known to be greater than the increased fiscal expenditure)
• Immigrants tend to be young adults. Human capital was accumulated at foreign expense.
• The cost of providing public service for immigrants is lower than that for nationals (foreign governments paid some fraction of it already).
• Illegal aliens: pay all the taxes, but not entitled to any benefits.

Labor Migration

Motives for migration

• Noneconomic factors
  • war (e.g., Afgan refugees)
    
  • political or religious persecution
  • overall quality of life
• economic factors: wage differential

Migrants not only move factor services, but they are also people. Capital and labor movements cannot be treated symmetrically.

Microsoft's Canadian Solution

(BWJan 28, 2008) At a congressional hearing, Microsoft Chairman Bill Gates criticized US immigration policy for limiting the H-1B visas, which are issued to skilled workers from foreign countries. The Senate ignored his pleas and left the visa policy unchanged. Bill Gates opened an office in Richmond, BC, where it plans to hire workers unable to obtain visas in the US.

Ottokar II (King of Bohemia) adopted a new immigration policy to accept skilled German immigrants.

Guest Workers

Temporary migration of unskilled workers is an important phenomenon in many parts of the world.

• Migrant Latin American workers in US agriculture and light industry.
• south European and North African workers migrate to the labor-intensive industries of northern Europe.

Legal arrangements

European Community provides unrestricted factor mobility among members. Italian workers are free to take jobs in Germany, for example.

Guest worker system

The host country government issues temporary permits to foreign workers to enter the country and take jobs. The host country can adjust the flow of migrant workers by controlling the number of permits.

ex. Bosnians, Serbs, Turks, and North Africans in Europe.

Effects on Host countries

• They help the host countries control production costs and inflation.
• The workers are generally unskilled.
• They are willing to accept low wages that native workers would not want.
  ex. farm workers, chambermaids, etc.
  Florida farm owners complain about the competition of cheap Mexican tomatoes also hire Mexican migrant workers.

• Increased ability to deal with macroeconomic disturbances.
  use guest workers as buffer against economic fluctuations
  In boom periods, the authorities issue more permits.
  In recession, guest workers are sent back to the source countries.

Effects on Source countries

Migrant workers receive better employment in the host countries. Migrant workers remit some of their earnings to the source countries. In 1979 Pakistan's remittances were 77% of the earnings from exports. (Labor migration becomes a substitute for exports)

Source countries face severe business fluctuations. In recession, the guest workers are sent back, aggravating unemployment. When they return, they bring alien tastes and habits.

"unskilled guest workers" in host countries can be a brain drain to the source LDCs.

Figure 9. Instability of the source country is generated by migrant workers.

Potential or Perceived Problems of Immigrants

1. Immigrants bring foreign customs and religious practices.

St. Mamertine prison in Rome, where Peter and Paul were imprisoned.	An Italian inscription, which probably states that Peter and Paul were baptizing converts even in the prison with the water that sprang up from this fountain miraculously, who then followed the procession of martyrs..	Colosseo. Gladiatorial combats were banned about AD 404 by Emperor Honorius.
Christian immigrants from Judea eventually reached Delphi, and destroyed the Greek temple and drove the priestesses out of business. Remains of the Apollo temple in Delphi. In a hope to get oracles, King Croesus brought carts full of gold and other precious gifts to the priestesses at this temple.	After enlightenment (528 BC), Gauthama Siddhartha (560-483 BC) began to teach his first disciples at Sarnath.Through trade, Buddhism spread to China, Korea and then Japan.Buddhist immigrants forever changed the customs of these countries. Buddha	Yogini

2. They may share strategic information with the source countries.
Example: During World War II, the Nazi party was active in the United States and in South America, where German immigrants were training and receiving orders from Germany. Through them Germans bought dive bombers just invented in the US. These German dive bombers wreaked havoc in England during the battle of England. Adolf Hitler tried to purchase tanks, but that effort was thwarted after the Japanese attack on Pearl Harbor. Hitler also sent messages to Mexico, encouraging Mexicans to invade Texas and the neighboring regions to recover the land they lost during a previous war.

Foreign immigrants sometimes serve as spies, although they can also be useful as spies for the host countries.

3. They are burdens on the Immigration and Naturalization Service
Influx of immigrants and visitors mean increased exports as they purchase US goods. However, government must also increase its public good expenditure to meet the needs of the immigrants and visitors. Currently, the INS is understaffed and cannot handle such enormous flow of foreign immigrants and visitors. The Federal government is trying to rectify this problem after the September 11 terrorist attack in New York and Washington, DC.

4. Immigrants eventually mix with the domestic residents and affect the genetic pool of the host country. Some view this as a positive, while others view it as a negative. Switzerland and Japan are probably the most restrictive, whereas the US is probably the most lenient country in terms of accepting foreign immigrants.

5. Visitors and immigrants sometimes sponsor terrorists (e.g., Fox news, October 2001, reported that Professor Sami Al-Arion, is the cheif fund raiser for a terrorist group). Subsequently, he was arrested. For these reasons, criminal background and activities of terrorists need to be carefully monitored. Whether such monitoring is unconstitutional is being debated. Currently, the Federal government is exploring ways to curtail terrorist attacks. Some have suggested to restrict the inflow of students and other visitors.

[Students: Do you have problems with the above?]