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Lecture 5
After World War I, laws were passed severely limiting immigration. Only a trickle of
immigrants has been admitted since then By keeping labor supply down, immigration
policy tends to keep wages high.
Paul Samuelson, Economics, 1964.

International Factor Movements & Multinationals

Introduction
Movement of goods and services is one form of international integration.
Another form of integration is international movements of factors of production
Factor movements include:
Labor migration
Transfer of capital via international borrowing and lending
International linkages involved in the formation of multinational corporations
Small open economy assumption
In all models here we assume the country in question has a small open economy, that is
domestic good prices are the same as international prices and they do not change because
a change in domestic factor endowment.

A. Effects of Immigration
1. Short Run Analysis: using Specific-Factors Model
1.1 Effect of immigration on wage rate

Figure 5.2: Increase in Home Labor

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Amount of labor at Home increases by L=> origin for agriculture shifts from OA to OA'.
MPL curve in agriculture also shifts right by the amount L, to PA'MPLA.
The Home wage is now determined at point B', so the wage falls from W to W'.
Then labor employment in manufacturing changes to OML' and that of agriculture
changes to OAL'.
Case Study::Immigration to the New World
Some 30m Europeans immigrated to the New World between 1870 and 1913.
o => population of Argentina rose by 60%, Australia and Canada by 30% and
the United States by 17% (15 million)
In 1870 wages in the New World were almost 3 times as high as in Europe.
In 1910 they were about twice as high.

Figure 5.3 Wages in Europe and the New World

Large scale migration from Europe to the New World
o closed the wage gap between the two locations.
o It also slowed the growth of wages below what would have occurred
otherwise, while allowing slightly faster growth of wages in Europe.
Large-scale migration => contributed to a convergence of real wages across the
continents.

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Europe Sours on Labor Migration
Globalization has turned 200 million people into migrant workers in the last few
decades.
o 1/5 are Europeans, 1/10 are Africans and 3% are from Latin America.

Figure 5.4 Share of Foreign-Born Workers in U.S. Workforce, 2008

This figure shows the share of foreign-born workers in the U.S. workforce, categorized
by educational level.
For example, among workers with only 0-8 years of education, about 70% were
foreign born; for those with 8-11 years of education, slightly more than 20% were
foreign born.
At the other end of the spectrum, the foreign born make up 17% of workers with
masters and professional degrees and 30% of those with Ph.D.s.
In the middle educational levels (high school and college graduates) there are
much smaller shares of foreign-born workers, ranging from 10 15%.
In contrast, only about 10% of U.S.-born workers are categorized in each of the
low education and high education groups; most U.S.-born workers are either high
school graduates or college graduates.

A. Effects of Immigration (continued)

1. Short Run Analysis: using Specific-Factors Model
1.2 Effect of immigration on Earnings of Capital and Land
See effects of an increase in labor endowment on Output, return on land and return on
capital in Specific-factors Model
Output of
Agriculture, QA

Shift in Home
PPF due to
immigration

Home PPF

B
A

Relative price of
manufactured
goods, PM/PA

Output of
Manufacturing, QM
Figure 5.5: Shift in Home Production Possibilities Curve

With L at Home due to immigration => the PPF shifts outward and the output of
both industries increases, from point A to point B.
QM and QA increase because of the short-run nature of the specific factors model.
Because land (T) and capital (K) do not move between the industries in the short-run,
adding labor to both industries increases the output in both industries.
Owners of capital and land often support more open borders, which provides them
with foreign workers that can be employed in their industries.
Local unions and workers who view migrants as a potential source of competition
leading to lower wages.
Immigrant groups themselves, if they are large enough, might also have the ability to
influence the political outcome on immigration policy.

A. Effects of Immigration (continued)

2. Effects of Immigration in the Long Run using HO model
2.1. Effect of immigration on Wages and Rents
With L => W=0 and R=0 by small open economy assumption and FPE theorem.
2.2. Effect of immigration on the production mix
Assumptions
L and K are used to produce two goods, Computers and Shoes.
KC and KS are capital used in the production of computer and shoes respectively
KC + KS = K , K is fully mobile between the two sectors in the long run; it must
earn the same rental R in each.
LC + LS = L , all labor earns the same wage of W in both sectors.
LS/KS > LC/KC. shoe production is labor-intensive compared to computer
production, so the labor-capital ratio in shoes is higher than it is in computers:
L => shift the PPF outward toward labor intensive shoe production
With fixed relative computer prices this leads to higher shoe production and lower
computer production at point B
Relative price of
computers, PC/PS
Output of
Shoes, QS
An increase of both
labor and capital in
shoe production
cause an increase in
shoe output and a
decrease in
computer output

Shift in Home
PPF due to
immigration

A
Home PPF

Output of Computers, QC
Figure 5.9: The Long-Run Effect on Industry Ouputs of an Increase in Home Labor
With an increase in the amount of labor at Home, the PPF shifts outward. The output of
shoes increases while the output of computers declines as the equilibrium moves from

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point A to B. The prices of goods have not changed, so the slopes of the PPFs at points
A and B (i.e. the relative price of computers) are equal.
The finding that an increase in labor will expand one industry but contract the other
only holds in the long run; in the short run both industries will expand. This finding
shows how much the long-run model differs from the short-run model. The long-run
result is named after the economist T.N. Rybczynski, who first discovered it.
Rybczynski Theorem:
An increase in the amount of a factor found in an open economy will increase the output
of the industry using that factor intensively and decrease the output of the other industry.
More on the reasons why PPF shifts they way it does with an Increase in
the Amount of Home Labor

Figure 5.8: Increase in Home Labor

With an increase in Home labor from L to L L , the origin for the shoe industry shifts from
OS to OS'. In the long-run, industry outputs adjust so that the K/L ratio in each industry (and hence
the slopes of O'SB and OCB) remain unchanged from their initial equilibrium at point A.

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(K, L) ( K, L+L)

EPC
K

QC

aKC QC=KC

EPS

QC
aTC QS = TS

QS

aLC QC = LC

aLS QS = LS

QS

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Case study: The Effects of the Mariel Boat Lift on Industry Output in Miami

The Mariel boat lift to Miami in 1980. The Cuban refugees were less skilled than the
average labor force in Miami.
According to the Rybczynski Theorem, we expect some unskilled-labor intensive
industry, such as footwear or apparel, to expand. And that some skill-intensive
industry, such as the high-tech industry, will contract.

In panel (a), with the inflow of refugees from Cuba in 1980, real value-added in
the apparel industry in Miami rose from 1983 to 1984, and the trend decline of
this industry in Miami was slower (i.e., value-added did not fall as fast) after
1980 than in the comparison cities.

In panel (b), real value-added in Miami in high-skilled industries fell faster

after 1980 than in the comparison cities. Both of these findings are consistent
with the Rybczynksi theorem.

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Case Study: immigration and U.S. Wages, 1990-2004

In 1980, the share of foreign-born persons in the U.S population = 6%.

In 2004 the share has grown to 12% - a doubling of foreign-born persons in 25 years.

How has this affected U.S. wages?

The estimated effect of immigration on the wages, depending on educational level:

Table 5.1 Immigration and Wages in the United States

The first row in part A: when capital and land are kept fixed within all industries (SF
Model, SR analysis) U.S. wages fall due to immigration by 3.2%.
The second row in part A: H-O Model-LR analysis; under constant real rental on capital:
allow K to grow in each industry to accommodate the inflow of immigrants, so that there
is no change in the real rental. Here we see that total U.S. immigration has a negative
impact on only the lowest and highest-education workers, and a positive impact on the
other workers (due to the growth in capital). The average U.S. wage now rises by 0.3%
due to immigration (combined with capital growth), rather than falling.
In part B we focus on the illegal immigration to the U.S. during 1990-2004. In that case,
it is only the wages of the lowest-educated persons that are negatively impacted. All other
workers gain from illegal immigration, once we take into account the growth in capital
that is expected to occur.

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B. The Effects of FDI

If a U.S. company acquires 10% or more of a foreign firm then that is counted as an
FDI outflow from the United States.
When a company builds a plant in a foreign country it is sometimes called greenfield
FDI (since we imagine the site for the plant starting with grass on it).
When a firm buys an existing foreign plant it is called acquisition FDI (or sometimes
brownfield FDI).

1. Short-Run analysis: Using Specific-Factors Model

1.1. Effect of FDI on the Wage: As a result of this shift, the equilibrium wage increases,

from W to W'. More workers are drawn into the manufacturing industry, and the labor
used there increases from 0ML to 0ML'. Because these workers are pulled out of
agriculture, the labor used there shrinks from 0AL to 0AL' (measuring from right to left).
1.2.Effect of FDI on the Industry Outputs: It is easy to determine the effect of an inflow of

FDI on industry outputs. Because workers are pulled out of agriculture, and there is no
change in the amount of land used there, then output of the agriculture industry must fall.
With an increase in the number of workers used in manufacturing, and an increase in
capital used there, the output of the manufacturing industry must rise. These changes in
output are shown in Figure 5.12, where the PPF shifts outward. At constant prices for
goods, the equilibrium outputs shift from point B to point B', with more manufacturing
output and less agricultural output.

Figure 5.12: Increase in Capital Stock

With the inflow of capital into manufacturing, and the extra labor used in that sector, the
output of manufacturing increases. Because labor has been drawn out of agriculture, the
output of that sector falls. These changes in outputs are shown by the outward shift of the
PPF (the increase in capital) and the movement from point B to point B' (the changes in
industry outputs).

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1.3. Effect of FDI on the Rentals:
There are 3 ways to measure the impact of FDI on the rental of capital

Method 1:
o With an inflow of FDI, employment in Mfg increases due to higher MPLM,
fewer workers are employed in agriculture, and each acre of land cannot
be used as intensively.
o The value of marginal product of land, RT = PA MPTA, falls.
o If MPTA falls and PA remains unchanged, then land rental must fall.
o This method does not tell us how RK changes

Method 2:
o Take the revenue earned in manufacturing and subtract the payments to
labor.
Method 3:
o Look at the value of the MPK, in the figure below.
Wage, W
C

W'

W
PMMPL'M
PAMPLA
OM

LM

PMMPLM
L

L'

LA

OA

The Effect of an increase in K on the R.

Moving from point A to B, the amount of K increases but the W remains the same, which
implies that the MPL in Mfg has not changed: the L-K ratio in Mfg, and hence the MPK
and the R, have not changed.
Moving from point B to C, the W increases while K remains the same, that is lower L-K
ratio (or higher K/L) in Mfg which implies lower MPK and lower RK at C.

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B. Effects of FDI (continued)

2. Effects of FDI in the Long Run using HO model
2.1. Effect of FDI on Wages and Rents
With K => W=0 and R=0 by small open economy assumption and FPE theorem.
2.2. Effect of immigration on the production mix
Here the results differ from those we saw in the short run specific factors model.
To model FDI in the long run, we assume again that there are two industries computers
and shoes both of which use two factors of production labor and capital. Computers
are K-intensive as compared to shoes, meaning the KC/LC > KS/LS.

Figure 5.13: Increase in Capital Stock

Effect of FDI on Outputs
Capital increases due to FDI.
As the Rybczynski Theorem states, the increase in capital through FDI has
increased the output of the capital-intensive industry and reduced the output of the
labor-intensive industry.
This change in output is achieved with no change in K-L ratios in either industry.
In figure 5-13, OCB and OSB have same slopes as OCA and OSA.
Because K-L ratios are unchanged, the wage and the rental on capital are also
unchanged.
In the long run model, an inflow of either factor of production will leave factor
prices unchanged.

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The Effect of FDI on Rentals and Wages in Singapore
We can use two methods to analyze the impact of FDI on wages and rentals,:
First, we can estimate the MPK in Singapore, using a production function that
applies to the entire economy.
The second approach involves the following:
If capital was rented instead of purchased, what would the rental be?
The rental agency needs to make the same rate of return on renting the
capital equipment that it would make if it invested elsewhere.
The real rental is:
R PK

(i d )
P P

Table 5.2 Real Rental and Wages in Singapore

In part A, a production function approach is used to construct the factor prices, and the
real rental falls over time because of the growth in capital. As a result, implied
productivity growth is negative.
In part B, the rental and wages are constructed from data on payments to capital and labor
in Singapore, and real wages grow over time, while the real rental either grows or falls
slightly. As a result, implied productivity growth is positive.
Here there is little evidence of a downward fall in the rentals over time.
There is evidence that real wages grew over time.
This is not what the long run model predicts. The model predicts unchanged
factor prices with an inflow of capital.
That real wages are growing in Singapore, with little change in the real rental, is
an indication that there is productivity growth in the economy, which leads to
an increase in the marginal product of labor and in the real wage.

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C. Gains from Labor and Capital Flows

1. Gains from immigration: using one good model

Figure 5.14: World Labor Market

Initially, Home has OL workers and Foreign has O*L workers. The Home wage is W, as
determined at point A, which is higher than the Foreign wage W* at A*. Workers will
move from Foreign to Home to receive higher wages. The equilibrium with full
migration is at point C, where wages are equalized at W'. The gain to the Home from
migration is measured by triangle ABC, and the gains to Foreign is the triangle A*BC.

Combining the gains to the Home and Foreign countries, we obtain the triangular
region ABA*, the world gains from immigration.
Turning the triangle on its side, its base equals (W W*), the difference in the Home
and Foreign wage in the absence of any migration.
The height of the triangle is (L L), the number of foreign workers that would
emigrate in the equilibrium with full migration.
So the area of the triangle is 1/2(W W*) (L L).
==>
Increase in the Home labor force & thus reduction in the real wage in Home.
Reduction in the Foreign labor force & increase in the real wage in Foreign.
The redistribution of the worlds labor force = = >
Increases the worlds output as a whole

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Leaves some groups worse off.

Leads to a convergence of real wage rates
in this example home national GDP is higher while that of foreign
country is lower,
home workers are worse off (lower wage rates), foreign workers better off,
home land owners are better off (higher rent because of higher MP of Land
due to higher employment), foreign land owners are worse off)

Gains from Migration

The results from several studies of immigration are shown in this table. The second
column shows the amount of immigration (as a percentage of the Home labor force), and
the third column shows the increase in Home GDP or the increase in GDP of the region.

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2. Gains from Foreign Direct Investment: using one good model

Figure 5.15 World Capital Market

With 0K units of capital at Home, the Home rental is R, at point A.
The remaining capital 0*K is in Foreign, and the Foreign rental is R*, at point A*.
Capital will move from Home to Foreign to receive a higher rental. The equilibrium with
full capital flows is at point B, where rentals are equalized at R.
Triangle ABC measures the gains to Home from the capital outflow, and triangle A*BC
measures the gains to Foreign.
==>
Reduce the Home labor force & thus raise the real wage in Home.
Increase the Foreign labor force & reduce the real wage in Foreign.
The redistribution of the worlds labor force = = >
Increases the worlds output as a whole
Leaves some groups worse off.
Leads to a convergence of real wage rates
in this example home national welfare in lower while that of foreign
country is higher,
home workers are better off (higher wage rates), foreign workers worse off,
home land owners are worse off (lower rent because of lower MP of Land due
to lower employment), foreign land owners are better off)
SE STUDY

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FYI: FDI at the Plant level

Rather than looking at wages and the rental on capital in an entire economy, like
Singapore, another approach to measuring the impact of FDI is to consider wages paid
at domestic versus foreign-owned plants. In the United States, for example, several
studies find that foreign plants pay higher wages than domestic plants. Another study
finds that foreign plants typically grow faster than U.S. plants of similar size, and that
they have a larger positive impact on local wages than does domestic investment. In
addition, wages in foreign-owned plants in Mexico and Venezuela are also found to be
higher than wages paid in domestic plants. These studies confirm the positive impact of
FDI on local wages.
It is also of interest to know whether foreign-owned plants are more productive than
domestic plants. Evidence in support of this idea has been found for Mexico and for
Indonesia. Specifically, those studies find that industry-level productivity is higher when
there are more foreign firms. The finding leaves open the question: is the higher
productivity due to the foreign plants themselves, or due to technological spillovers
between the foreign and domestic plants?
To answer this question we need to use data from individual plants. Studies of Morocco
and Venezuela have found that foreign plants indeed have higher productivity, but that
they exert a weak negative effect on the productivity of domestic plants in the same
industry. That negative impact could come from bidding away the best workers from the
domestic plants, for example, because they are paid higher wages in the foreign plants.
To conclude, these findings suggest there are few technological spillovers between
foreign and domestic firms; rather, foreign firms are just more productive on average
than their domestic counterpart