In open trade system the home country would

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Unformatted text preview: ) Pc/Pw aic/ aiw= 5/2 6/5 aic*/ aiw* = 6/6 = 1 2/3 6 (Qc/Qw)w = (Qc+Qc*)/(Qw+Qw*) 6 Here, we are faced with a linear relative demand function and homothetic preferences. In equilibrium: (Qc + Qc*)/(Qw + Qw*) = 6 – 5(Pc/Pw) = 2/3 à༎ Pc/Pw = 16/15 Also, in equilibrium, since the relative demand curves passes through the vertical part of the relative supply curve, we know that both countries specialize. While the foreign country specializes in the production of cheese, the home country specializes in the production of wine. So, Qc = 0; Qw = 100/2 = 50; Qc* = 200/6 = 33.3; Qw* = 0. Finally, we calculate the equilibrium wage rates. w = Pw/aiw = Pw/2 and w* = Pc/aic* = Pc/6 where Pw and Pc are world prices of wine and cheese, respectively. And, the relative wages are as follows: w/w* = (Pw/aiw)/( Pc/aic*) = (Pw/Pc)( aic*/ aiw) = (15/16)(6/2) = 2.81...
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This note was uploaded on 01/23/2014 for the course ECON 181 taught by Professor Kasa during the Fall '07 term at Berkeley.

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