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microeconomics book solution 8

# microeconomics book solution 8 -...

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Solution International Trade 1. Assume Saudi Arabia and the United States face the production possibilities for oil and cars shown in the accompanying table. a. What is the opportunity cost of producing a car in Saudi Arabia? In the United States? What is the opportunity cost of producing a barrel of oil in Saudi Arabia? In the United States? b. Which country has the comparative advantage in producing oil? In producing cars? c. Suppose that in autarky, Saudi Arabia produces 200 million barrels of oil and 3 million cars; similarly, that the United States produces 300 million barrels of oil and 2.5 million cars. Without trade, can Saudi Arabia produce more oil and more cars? Without trade, can the United States produce more oil and more cars? 1. a. In Saudi Arabia, 1 million cars can be produced by giving up production of 200 million barrels of oil. So the opportunity cost of 1 car in Saudi Arabia is 200 bar- rels of oil. The opportunity cost of 2.5 million cars in the United States is 100 mil- lion barrels of oil, making the opportunity cost of 1 car equal to 100 million/2.5 million = 40 barrels of oil. The opportunity cost of 1 barrel of oil in Saudi Arabia is 0.005 of a car. The opportunity cost of 1 barrel of oil in the United States is 0.025 of a car. b. Since the opportunity cost of producing oil is lower in Saudi Arabia, it has the comparative advantage in oil production. And since the opportunity cost of pro- ducing cars is lower in the United States, it has the comparative advantage in car production. c. In autarky, Saudi Arabia cannot produce both more oil and more cars. If Saudi Arabia produces 200 million barrels of oil and 3 million cars, it is on its produc- tion possibility frontier. This means that it can produce more oil only if it pro- duces fewer cars. The same is true for the United States. Saudi Arabia United States Quantity of oil Quantity of oil (millions of Quantity of (millions of Quantity of barrels) cars (millions) barrels) cars (millions) 0 4 0 10.0 200 3 100 7.5 400 2 200 5.0 600 1 300 2.5 800 0 400 0 S-115 8 chapter: S115-S126_Krugman2e_PS_Ch08.qxp 9/16/08 9:21 PM Page S-115

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Solution 2. The production possibilities for the United States and Saudi Arabia are given in Problem 1. Suppose now that each country specializes in the good in which it has the comparative advantage, and the two countries trade. Also assume that for each coun- try the value of imports must equal the value of exports. a. What is the total quantity of oil produced? What is the total quantity of cars produced? b. Is it possible for Saudi Arabia to consume 400 million barrels of oil and 5 mil- lion cars and for the United States to consume 400 million barrels of oil and 5 million cars? c. Suppose that, in fact, Saudi Arabia consumes 300 million barrels of oil and 4 mil- lion cars and the United States consumes 500 million barrels of oil and 6 million cars. How many barrels of oil does the United States import? How many cars does the United States export? Suppose a car costs \$10,000 on the world market. How much, then, does a barrel of oil cost on the world market?
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