2010 - fall - midterm - solutions

# Good b p b p b w w a lb a lb 1 1 z 3 4 3 2 2 3 18 24

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good B P B P ° B = w w ° a LB a ° LB 1 (1 + z ) = 3 4 3 2 2 3 = 18 24 < 1 good B will become a non-traded good. good B will be produced (and consumed domestically) by both countries. 4

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good F P F P ° F = w w ° a LF a ° LF 1 (1 + z ) = 3 4 2 1 2 2 3 = 12 6 > 1 Foreign will continue to produce and export good F: (d) Suppose that instead of 2 countries and 3 goods there are 3 countries and only 2 goods, where marginal productivities are described in the following table: marginal productivity of labour Country A B C Rope 5 2 3 Shoes 6 1 2 2 Determine the range of the relative price of Rope which will lead to the special- ization in Rope by 2 of the 3 countries and specialization in Shoes by one country. Explain which country will have the highest wage? The opportunity cost of Rope in each country is: Country B C A opp cost of rope 1 4 2 3 6 5 Relative price of rope 2 3 < P R P S < 6 5 will lead to B and C producing Rope and A producing Shoes. Country A has the highest productivity in the production of both goods so A will have the highest wage. 2. In a Heckscher-Ohlin world with two consumption goods, Solar panels ( S ) and wheat ( W ) can be produced using two factors of production (inputs), Labour ( L ) and Land ( T ) . The prices of labour and land are w and r respectively. The production of Solar panels is said to be Labour intensive and the production of Wheat is Land intensive, that is T L W > T L S The Home country has a °xed supply of both Labour, ° L and Land, ° T . The PPF for the Home country is curved and is concave (bowed out) relative to the origin (a) Use the graph of the PPF below to explain what will happen to the production of Wheat and Solar Panels if there is an increase in the relative price of Solar Panels 5
(increase in P S P W ) in the Home country. Is the Home country likely to devote all its resources to the production of a single good? P 1 P 0 S W Q 0 Q 1 Increase in the relative price of Solar panels from P 0 = P S P W 0 to P 1 = P S P W 0 will lead to a change in production from Q 0 to Q 1 , there is an increase in the production of S and a decrease in the production of W: 6

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