ECONOMICS
Specific Factors Model - Exercise Questions-part1

Specific Factors Model - Exercise Questions-part1 -...

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ECON-450-INTERNATIONAL TRADE Specific Factors Model - Exercise Questions Bahar Kartalciklar University of Southern California Question-1 Home produces two goods, computers and wheat, where capital is specific to computers, land is specific to wheat, and labor is mobile between the two industries. Home has 100 workers and 100 units of capital, but only 10 units of land. a) Draw a graph with the output of wheat on the vertical axis and the labor in wheat on the horizontal axis. What is the relationship between the output of wheat and the marginal product of labor in the wheat industry as more labor is used? b) Draw the production possibilities frontier (PPF) for Home with wheat on the horizontal axis and computers on the vertical axis. What is the slope of the PPF (in terms of marginal products of wheat and computers)? c) Explain how the price of wheat relative to computers is determined in the absence of trade. d) Show the labor market equilibrium on graph with the amount of labor used in wheat measur- ing from left to right along the horizontal axis, and the amount of labor used in computers moving in the reverse direction. e) Assume that because of international trade, the price of wheat rises. Analyze the effect of the increase in the price of wheat on the allocation of labor between the two sectors. Answer-Question-1 a) As more labor is added to the production of wheat, the marginal product of labor declines so that although the output of wheat continues to increase, the output is increasing at a decreasing rate. 1
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b) c) In the absence of international trade, the relative price of wheat is the slope of the line tangent to the PFF and Homes indifference curve. d) 2
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e) The increase in the price of wheat shifts the P W · MPL W curve upward to P 0 W · MPL W so that the new equilibrium is at point B. The amount of labor used in wheat increases from 0 W - L to 0 W - L 0 , although the amount of labor devoted to computer decreases from 0 C - L to 0 C - L 0 . Although the wage rises from W to W 0 , the increase is less than the vertical shift of the P W · MPL W curve given as Δ P W · MPL W . Question-2 Suppose two countries, Canada and Mexico, produce two goods, timber and televisions. Assume that land is specific to timber, capital is specific to televisions, and labor is free to move between the two industries. When Canada and Mexico engage in free trade, the relative price of televisions falls in Canada and the relative price of timber falls in Mexico. a) In a graph similar to Figure 3-6, show how the wage changes in Canada because of a fall in the price of televisions, holding constant the price of timber. Can we predict that change in the real wage? b) What is the impact of opening trade on the rentals on capital and land in Canada? Can we predict that change in the real rentals on capital and land?
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