Assignment

Answer the following 5 questions:

1. Draw a production possibilities frontier with the following information (assume the ppf is linear for this question). A country can produce a maximum of 4000 units of automobile parts and a maximum of 2000 pounds of beef.If the country is producing 1000 units of automobile parts and 1000 units of beef, is it possible to unambiguously improve the welfare of every person in this country? Suppose the country now moves to 3000 units of automobile parts and 500 units of beef. Is this point more efficient? Is it unambiguously better? If not, is there a way that it could be made to be unambiguously better? How likely is this to happen? What can we conclude about the potential impact of free trade based on this problem? (note: I wrote this problem without trade to make the technical part easier to work. You will need to extend the welfare theorems to the potential impact of trade to answer this last part).

2. Now assume a country can produce a maximum of 1000 units of automobile parts and a maximum of 2000 pounds of beef. Let this country be the host country. Its main trading partner can produce a maximum of 2000 automobile parts and a maximum of 1000 pounds of frozen beef. Using the linear PPF, draw the host country's PPF: show an approximate level of domestic production and consumption before and after trade. What will be the range of international prices for beef. How can we know that this country is better off with trade?

3. The domestic equilibrium price and quantity without trade for a country's internal production of automobile parts is $50 per unit and 1000 units are produced. Now suppose the country opens its automobile parts market to international trade. The international price is $25 per unit. At this price domestic production will be 500 units but domestic consumption will be 2000 units. Show graphically: the gain in consumer surplus and the level of imports. If a $15 tariff is imposed and domestic production increases to 750 units and domestic consumption falls to 1500 units, show graphically the loss in consumer surplus?

4. Suppose that instead of imposing a tariff on automobile parts the above country decides to direct domestic subsidies in the form of low interest rates, tax breaks, etc. to the domestic automobile parts industry. Show the impact of this on the domestic price and quantity and level of imports.

5. Briefly explain the product cycle hypothesis. Be sure to include the graph on your explanation. Using the scenario in question #4 explain whether or not there could be a legitimate rationale for the efforts by the government to enact the described policy of subsidizing the domestic industry if the country enacting the policy is a developing country and the automobile parts industry is in stage 2. Now analyze the policy assuming the country is a developed country in stage 3.

Text Book: Internatinal Economics, Sixth Edition, by James Gerber.