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Factor Accumulation and the Terms of Trade: A Three-Country, Three-Commodity, Three-Factor Analysis

Raveendra Batra

Abstract

This paper extends the traditional analysis concerning the impact of factor accumulation on a country's terms of trade expounded in a two-by-two model to a world that consists of three countries, each producing three commodities with the help of three factors. It is shown that an "export-biased" factor growth must globally deteriorate the terms of trade of the expanding country--a result similar to that derived in the two-by-two model. An "import-biased" factor growth (of one factor only), however, will improve the growing country's terms of trade with respect to one country but worsen them with respect to the other. Consequently, the conventional view that an "import-biased" factor growth must raise the growing country's real income more than the rise in its output may not hold in a realistic world where trade is multilateral rather than bilateral.