Heckscher-Ohlin and Taxes Assignment-

Taxes in International Trade-

Cigarettes are a relatively small market, with few substitutes and complements, and therefore can be analyzed in separation from income effects. A country is in autarky, and the home demand is satis?ed with home supply. Let the demand for cigarettes be

D(p) = 20 -  2p,

and the supply of cigarettes be

S(p) = 2p + 4.

• Solve for autarky price, quantities, and consumer and producer surpluses.

The country has an opportunity to start trading with another much larger country that has a large cigarette supplier, which can provide any amount of cigarettes for p* = 2.

• Solve for demand, supply, import, consumer and producer surpluses.
• How big is the bribe that home producers are eager to pay to not participate in free trade with that larger country?
• How big is the bribe that home producers are eager to pay to guarantee themselves a 50% tax on cigarette imports after opening the borders? What is the consumer's surplus in this case?

The country instead starts trading with another country of a similar size that has a cigarette supplier, which has an excess supply of cigarettes at S*(p) = 4p - 8.

• Solve for demand, supply, import, consumer and producer surpluses.
• How big is the bribe that home producers are eager to pay to not participate in free trade with that smaller country?
• How big is the bribe that home producers are eager to pay to guarantee themselves a 50% tax on cigarette imports after opening the borders? What is the consumer's surplus in this case?

Heckscher-Ohlin Model

Let there be two goods, F and G. Both are produced with capital and labour:

Q_F(K, L) = K^0.6L^0.4, Q_G(K, L) = K^0.4L^0.6.

The country owns K¯ = 100 units of capital and L¯ = 100 units of labour.

-Let w be the price of labour and r be the price of capital.

• How much capital do you need to produce 1 unit of each good? How much labour?
• Which good is labour-intensive?
• Solve for the marginal cost function for both goods.

-What does the free market entry assumption implies about prices of both goods?

-Find the connection between the relative ?nal good prices and relative factor prices.

-Solve for the relative supply function.

• Under the prices of w and r, how much capital and labour you need to produce F¯ units of F and G¯ units of G?
• How much labour and capital you have in total?
• What does this together imply about F¯ and G¯ that your producers will produce when they face w and r? What about F¯/G¯?
• What is the connection between w/r and relative prices?

-For the utility function u(F, G) = (F^ρ + αG^ρ)^1/ρ, solve for the relative demand function.

-If the amount of capital K¯ increases, what happens with the relative supply function? What will happen with the relative prices?

-If there are two countries with same level of L¯, but different levels of K¯, will they trade? Who will export F?

-What would change if you had three countries?

-What would change if you had three goods?