MGEC62+Problem+Set_ImpComp.pdf

MGEC62+Problem+Set_ImpComp.pdf - University of Toronto at...

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University of Toronto at Scarborough Department of Management International Economics: Trade Theory MGEC62 Increasing Returns to Scale & Monopolistic Competition The Ricardian and Heckscher-Ohlin theories both assume that the technology for the production of a good is characterized by Constant Returns to Scale. In the 1970s, economist built formal theories of trade that instead assumed Increasing Returns to Scale . Under increasing returns to scale, if the quantities employed of all resources are, say, tripled, then the quantities produced will increase more than three-fold. Therefore, wen resource costs, say, triple, output will more than triple. Thereby, costs per unit produced – also known as average costs – decreases as output increases. This implies that the per unit cost of production will be lower when 30 units are produced then when 10 units are produced. In other words, increasing returns to scale means that bulk production is cheaper production. Increasing Returns to Scale cannot coexist with Perfect Competition and thus we assume Imperfect Competition. Specifically, we assume that (1) there is one differentiated good, (2) the
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