Question: 1. Explain how increasing returns to scale in production can be a basis for trade.
2. Why is trade within a country greater than trade between countries?
3. Starting from the long-run equilibrium without trade in the monopolistic competition model, as illustrated in Figure 6-5, consider what happens when the Home country begins trading with two other identical countries. Because the countries are all the same, the number of consumers in the world is three times larger than in a single country, and the number of firms in the world is three times larger than in a single country.
a. Compared with the no-trade equilibrium, how much does industry demand D increase? How much does the number of firms (or product varieties) increase? Does the demand curve D/NA still apply after the opening of trade? Explain why or why not.
b. Does the d1 curve shift or pivot due to the opening of trade? Explain why or why not.
c. Compare your answer to (b) with the case in which Home trades with only one other identical country. Specifically, compare the elasticity of the demand curve d1 in the two cases.
d. Illustrate the long-run equilibrium with trade, and compare it with the long-run equilibrium when Home trades with only one other identical country.
