Stolper-Samuelson Theorem:

The Stolper-Samuelson  theorem describes the relationship  between changes in prices of goods and changes in factor prices such as wages (for labour) and rents (for capital) within the context of the.H-0 model. The theorem states  that if the price of the capital-intensive  good rises then the price of capital (rents) will also rise, while the wages paid to labour will  fall. Thus, if the price of electronics were to rise, and if electronics were capital- intensive, then the rental rate on capital would rise while the wage rate would fall. Similarly, if the price of the labour-intensive good were to rise then the wage rate would rise while the rental rate would fall.  

Magnification Effect: The theorem was  later generalised by  Jones who constructed  a 'magnification effect' for prices  in the context of  the H-0 model. The magnification  effect allows for analysis  of any change  in the prices of  the both goods and provides information about  the magnitude of  the effects  on the wages and rents. Most importantly, the magnification effect allows one to analyse the effects of price changes on real wages and real rents earned  by workers  and  capital  owners.  This is crucial  hm  the point of view of policy-impact since real returns indicate the purchasing power of wages and rents after accounting for the price changes and thus are a better measure of well-being  than simply  the wage rate or rental rate alone. This  theorem has a  topical relevance  in the age of globalisation and  trade liberalisation. When  trade liberalisation occurs in a country, prices of goods change, and  the magnification effect can be applied to seek an  important result. A  movement  towards  fkeer trade will cause the real return of  a country's relatively abundant factor  to  rise, while  the real return of the country's relatively scarce factor will fall. Thus, if the US and India are two countries who move  towards fkee trade, and if  the US is capital-abundant (while  India is labour-abundant) then capital owners in the US will experience  an increase in the purchasing power  of their  rental  income while workers will experience a decline in  the purchasing power of  their wage  income (i.e.,  they will  lose).

The reasons for this result are somewhat complex. When a country moves to flee  trade  the  price of  its exported goods will  rise while  the price of its imported goods will fall. The higher prices in the export industry will inspire profit-seeking  finns  to expand prbduction.  At  the  Fe  time,  in  the import-competing industry suffering hm  falling prices, will want to reduce production to cut their losses. Thus, capital and labour will be laid-off in the import-competing sector  but will be in demand  in  the  expanding export sector However, a problem arises due to the fact that the export sector  is intensive in the country's (US) abundant factor, say capital  -  as per the H-0  theorem. This means that  the export industry wants relatively more capital per worker than the ratio of  factors that  the import-competing  industry is laying off. In  the transition, there will be an excess  demand for capital, which will raise its  price, and an excess supply of labour, which will bring down its price. Hence, the capital owners  in both industries experience  an increase  in  their rents while the workers in both industries experience a decline in their wages. The theorem was originally developed to illuminate the issue of how tariffs would affect the incomes of workers and capitalists (i.e.,  the distribution of income) within a country, because tariffs  raise the domestic price of imported goods.  However,  the  theorem  is  just as  useful when  applied to trade liberalisation, as explained above. However, it  should be kept  in mind  that these results have been derived  in a model with only  two goods  and  two factors that are perfectly mobile between sectors. They may not be valid in general. In particular,  a  factor, which  is employed in a sector where output declines (because of competition fkom  imports) will definitely suffer a loss in its real reward if it has no Alternative source of employment.