ECON 448: Week 2-
1. Comparative Advantage
1. Ricardian model
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Labor (hours) required
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One computer
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One sack of rice
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In N
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10
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15
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In S
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40
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20
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We assume that both countries have the same endowment of labor, 120 (hours).
(a) Which country has the absolute advantage in computer production? How about in agriculture?
(b) Which country has the comparative advantage in computer production? How about in agriculture?
(c) Draw the Production Possibility Frontier (PPF) for each country in autarky.
(d) Calculate the relative price of computer compared to rice(p = PC/PR) in each country in autarky.
(e) Now the two countries open up to trade. Predict the pattern of trade given the international relative price p∗.
(f) Why do you think countries want to participate in international trade?
2. Hechscher-Ohlin model
Now we assume that N and S have the same technology but differently endowed with production factors. There are two goods: cars and textiles, which are produced with capital (K) and labor (L). N is relatively well endowed with capital. The production of cars is capital-intensive, while textiles is labor-intensive.
(a) Draw (a possible set of) isoquants for the production of the two goods given price.
(b) Draw a box which represents factor endowments for each country.
(c) Draw the PPF for each country in autarky. If the preference were about the same in both countries (the same indifference curves), which country has lower domestic price of cars relative to that of textiles (p = PC/PT)?
(d) Now the two countries open up to trade. Predict the pattern of trade given the international relative price p∗.
(e) When the two countries open up to trade, how does the ratio of wages to capital incomes change in each country?
3. New Trade Theory: Demand for Varieties and Economies of Scale
(a) While the traditional view of trade based on comparative advantage predicts inter-industry trade, the new trade theory based on demand for varieties and economies of scale predicts intra-industry trade.