2010 - fall - midterm - solutions

# Wages of a country are tied to the productivity of

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Wages of a country are tied to the productivity of its labour. By raising productivity a country will increase the wages in the country and increase that country±s share of world income. 5. Consider trade between Canada and the various members of ASEAN (the Association of Southeast Asian Nations). The following table lists the GDP of a member nation of ASEAN as a percentage of total ASEAN GDP. Country Percent of ASEAN GDP Indonesia 33 Thailand 18 Malaysia 14 Singapore 13 Philippines 12 Vietnam 6 What prediction would the gravity model make concerning an ASEAN country±s share of total ASEAN trade with Canada? Explain. 2

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Distances can be considered roughly equivalent between an ASEAN country and Canada. The gravity model will predict that the volume of trade will be proportional to the size of the economies so we would expect a linear relationship between percent of ASEAN GDP and volume of trade. Share ASEAN gdp Share of ASEAN trade with Canada PART B: 1. Consider a Ricardian world with three goods, Cloth ( C ), Food ( F ) and Beer ( B ) . There are 2 countries, Home and Foreign. Consumers in both countries enjoy consuming all goods. Unit labour requirements for the production of goods are given in the following table: unit labour requirements Industry C F B Home 5 2 3 Foreign 6 1 2 2 Home has a labour force, L = 1500 ; Foreign has a labour force, L ° = 1200 . (a) Complete the following table ordering the 3 goods in descending order of Relative Home Productivity Advantage. GOOD RELATIVE HOME PROD ADV. C 6 5 B 2 3 F 1 4 3
(b) In a graph, sketch the RD L and RS L functions consistent with an equilibrium relative wage w w ° = 3 4 . Explain the patterns of trade that would be expected. F B C L/L* w/w* 6/5 2/3 1/4 RS L RD L 5/4 Home will produce and export good C; and import B and F: Foreign will produce and export goods B and F and import C: (c) Continue with w w ° = 3 4 . Suppose that there are transportation costs which are a °xed percentage ( z ) of the production costs of a good. The transportation costs apply to goods that are exported from one country to another (Home to Foreign, or Foreign to Home). If z = 50% determine the pattern of production and trade with these transportation costs in place. Do any goods become non-traded? With z = 50% we can check whether each good is still traded. good C P C P ° C = w w ° a LC a ° LC (1 + z ) 1 = 3 4 5 6 3 2 = 45 48 < 1 With P C < P ° C ; Home will continue to produce and export good C .

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• Winter '10
• MALHOTRA,NISHA