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Thursday, 13 October 2011

Comparison of Factors of production between China and Japan

China and Japan have two factors of production, land and labor. Both countries produce two goods, corn, which requires more land, and computers, which requires more labor. Given that China is abundant in land and Japan is abundant in labor, what will be the effect on the terms of trade an increase in Japan's labor supply? What will be the welfare effect of a decrease in land used for corn in China?

Among the two factors of production, land and labour, China has abundance of land, but is short of skilled labour needed for computer manufacture. Japan on the other hand has abundance of skilled labour but is short of land needed for corn production. This is classic case of Ricardian theory.

It is given that both countries produce corn as well as computers. But production of corn in Japan must be costlier in Japan than in China and so also the production of computers in China. When labour force increases in Japan, the cost of production of computers comes down further. If free trade being allowed between China and Japan, people in China will opt for purchase of computers from Japan and the Japanese try to buy corn from China as a result of which gradually Japan will be shifting to specializing in production of computers and China to production of more corn. Japan will have comparative advantage in production in computers and China in production of corn. They can trade with exchanging both corn and computers which works towards gain for both countries. Since both countries geographically are also close by, the transportation costs are negligible thereby increasing the price competitiveness of the goods. The decrease in land used for corn in China will have adverse impact on the cost of corn production which can increase the price of corn.

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