# **6.4 Factor markets**

Until now, the analysis in this paper has been largely focused on the effects of final goods prices on sectoral adjustment. However, changes in input prices also play an important role in determining the final equilibrium. The previous sub-section mentioned that the expanding sectors are able to increase output volumes by absorbing labor and capital that are released by the contracting sectors. Since the stocks of labor and capital grow exogenously in the simulations in this paper, the effects of trade reform on factor prices are mainly determined on the demand side and largely follow the sectoral factor intensities shown in Table 5.

First, consider the initial conditions, which are summarized in the second column (labeled “2004”) of Table 8 for each factor type. Section 4.2 has already noted that the large wage differentials across farm and non-farm segments are indicative of barriers to labor mobility, and therefore justify the segmented labor markets approach of this paper.<sup>37</sup> The migration function allows a small number of workers to respond to these wage differentials by moving from farm to non-farm activities.<sup>38</sup> If non-farm wages grow faster than earnings in agriculture, migration rises; otherwise, it declines. Therefore, the evolution of factor prices in each of the simulations is determined by four major factors: labor supply growth rates, initial earnings differentials across segments (which can affect labor supply growth at the segment level through migration), initial factor intensities by sector (which determine which factors are most likely to gain or lose), and the pattern of growth (which determines the magnitude and direction of demand shocks).

Table 8: Initial Levels and Changes in Factor Prices and Migration, Trade Scenarios

||2004|_BaU_|_CBL_|_CHN_|_CUS_|_C_<sup>_hi_</sup><br>_BL_|_CML_|_FL_|
|---|---|---|---|---|---|---|---|---|
|Non-farm unskilled wage|37.13|0.63|0.72|0.71|0.64|0.71|0.86|1.11|
|Non-farm skilled wage|59.56|1.36|1.50|1.43|1.43|1.43|1.51|1.60|
|Farm unskilled wage|6.16|0.33|0.26|0.25|0.32|0.25|0.41|0.12|
|Farm skilled wage|10.16|0.28|0.15|0.14|0.29|0.12|0.33|0.01|
|Unskilled migration|7893|0.30|0.46|0.46|0.32|0.46|0.45|0.99|
|Skilled migration|504|1.07|1.34|1.29|1.14|1.31|1.18|1.59|
|Average unskilled wage|23.45|1.08|1.16|1.15|1.10|1.15|1.30|1.52|
|Average skilled wage|54.51|1.43|1.56|1.49|1.50|1.50|1.58|1.66|
|Average tertiary skilled wage|125.12|1.65|1.74|1.74|1.65|1.67|2.08|2.32|
|Average capital rent|1.00|-0.07|0.08|0.10|-0.09|0.15|0.20|0.42|
|_Note:_ For each variable, the “2004” <br>of lempiras, and rural-to-urban migr<br>in the base year. Columns 3 throug<br>each of the variables, in percentage <br>between the frst and the last period<br>_Source:_ Author’s calculations.|column co<br>ation in n<br>h 8 show <br> terms. T<br>. All migr|ntains th<br>umber o<br>the aver<br>he growt<br>ation is i|e base ye<br>f workers<br>age annu<br>h rates a<br>nternal t|ar value<br>. The re<br>al growt<br>re calcul<br>o Hondu|s. Wages<br>al renta<br>h rates b<br>ated ass<br>ras.|are rep<br>l rate is <br>etween <br>uming e|orted in th<br> normalize<br> 2004 and <br>xponential|ousands<br>d to one<br>2016 for<br> growth|

The slight decline in the capital rental rate in the _BaU_ scenario is explained by a gradual (albeit very small) rise in the capital-output ratio over time. Average, or economy-wide, wages of skilled and tertiary-skilled labor rise faster than the wages of unskilled workers because with rising incomes, demand for products with higher income elasticities increases faster than average and the production of these commodities (manufactured goods and especially services) is more

> 37Note that only the unskilled and skilled labor markets are segmented—workers with tertiary education are allowed to switch sectors freely.

> 38Recall that in the base year, migration is set to 1 percent of the farm labor force, excluding the tertiary-skilled.

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