1. Consider an offshoring model in which Home’s high-skilled labor has a higher
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Question
1. Consider an offshoring model in which Home’s high-skilled labor has a higher relative wage than Foreign’s high-skilled labor and in which the costs of capital and trade are uniform across production activities.
(a) Will Home’s offshored production activities be high or low on the value chain for a given product? That is, will Home offshore (i.e., outsource) activities that are high-skilledlabor-intensive or low-skilled-labor-intensive? Depict the slicing of the value chain for the home country and briefly explain in words.
(b) Suppose that Home uniformly increases its tariff level, effectively increasing the cost of importing all goods and services from abroad. How does this affect the slicing of the value chain? Answer by depicting the original slicing of the value chain as “A” and the new slice as “B”.
(c) Draw relative labor supply and demand diagrams for Home and Foreign showing the effect of this change. What happens to the relative wage in each country?
Explanation / Answer
Answer. As per the condition, the wages for highly skilled labour in home country is more than in foreign country.
(A) Assume that there are only two types of techniques to produce the goods which are labour intensive technique and capital intensive technique in both countries. Now if we talk about home country, it has high wages for skilled labour as compared to foreign country. So, it will use more of capital intensive technique and less of labour intensive technique as it reduces its costs and it will help it to be competitive as well. While, in foreign country, it will use more of labour intensive technique because the wages are low and the cost will be less to produce the goods.
(B) If home country imposes tariff on imports, then the effects can be explained in 3 ways.
(C) In both countries, labour demand curve will be downward sloping indicating inverse relation between labour demand and wage rate. The labour supply curve will be upward sloping indicating direct relation between wage rate and labour supply.
If home uses more of capital intensive technique, then labour demand curve will shift leftward, and the wage rate decreases. While, if the aborad uses more of labour intensive technique, then labour demand curve will shift rightward, increasing their wages.
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