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Solution PS1

# Solution PS1 - Econ 181 DIS 103/4 Spring 2010 Problem Set 1...

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Econ 181 - DIS 103/4, Spring 2010 February 24, 2010 Problem Set 1 - Suggested Answers 1. (a) P UK C /P UK W = 1 / 3. P US C /P US W = 3 / 2. (b) The free trade price will settle between 1 / 3 and 3 / 2. The UK will export cloth and the US will export wheat. (c) Note that the consumption possibility frontier has shifted outward (not in parallel...) in both countries, so they are both better o ff . Assuming both goods are normal, wheat consumption in the UK increases due to both income and substitution e ff ects, whereas the change in cloth consumption in the UK is ambiguous; vice versa for the US. Wages in the UK pre-trade are 1 / 2 cloth (per hour) or 1 / 6 wheat, and post- trade are 1 / 2 cloth or 1 / 3 wheat. Wages in the US pre-trade are 1 / 3 cloth or 1 / 2 wheat, and post-trade are 3 / 4 cloth or 1 / 2 wheat. Consequently, the relative wage in the US is W US /W UK = 3 / 2. (d) Post trade, the unit labor cost of producing cloth is 1 unit of cloth in the UK and 9 / 4 units of cloth in the US; the unit labor cost of producing wheat is 1 unit of wheat in the US and 2 units of wheat in the UK. These unit labor costs

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Solution PS1 - Econ 181 DIS 103/4 Spring 2010 Problem Set 1...

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