# Comparative_Advantage__Lesson_12_ - Changes in the World...

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1 Lesson 12 1 Changes in the World Equilibrium We use the two-country model developed in the previous lesson to explore how changes in the global economic environment can affect the domestic economy We will begin with the same example that we used in the previous lesson Lesson 12 2 Assume there are two countries, two goods: H X Q H Y Q 500 100 100 25 Home Country Foreign Country F X Q F Y Q Lesson 12 3 Recall that we derive the world supply curve for good X by asking how much X each country would produce at any given relative price, then adding these amounts together For example, when the price of X in terms of Y is less than 1/5, no country will want to produce good X , so the world quantity of X supplied is zero.

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2 Lesson 12 4 When the world price of X in terms of Y is between 1/5 and 4, the Home country produces only X , while the Foreign country produces only Y , so the world supply of X is 500 Finally, if the price of X in terms of Y is greater than 4, both countries produce only X , so the world supply of X is 500 (Home supply) + 25 (Foreign supply) = 525 Lesson 12 5 Derive world supply by horizontal addition: F X H X Q Q + Y X P P 5 1 F X H X S S + 500 525 4 Lesson 12 6 Derive world demand by horizontal addition: F X H X Q Q + Y X P P F X H X D D + 50 250 5 1 200 F X D H X D
3 Lesson 12 7 The world (“free trade”) equilibrium : F X H X Q Q + Y X P P 5 1 F X H X D D + 500 525 4 F X H X S S + 250 Lesson 12 8 As this example is constructed, the equilibrium price of X in terms of Y would be 1/5 if trade

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## This note was uploaded on 09/14/2009 for the course ECON 340 taught by Professor Leidholm during the Summer '08 term at Michigan State University.

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Comparative_Advantage__Lesson_12_ - Changes in the World...

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