Question: Consider two towns A and B where only 2 goods are produced: pasta and smart phones. The production technology used in town A requires 2 people to produce 1 unit of pasta and 10 people to produce 1 unit of smart phones whereas the production technology used in town B requires 3 people to produce 1 unit of pasta and 9 people to produce 1 unit of smart phones. Labor force of towns A and B are given by 1000 and 1800, respectively.

Let us assume that, at the beginning, towns A and B do not trade and town A allocates 60% of its labor force to produce pasta whereas town B allocates %25 of its labor force to produce pasta. Suppose that, at some point in time, towns A and B decide to open up trade amongst themselves.

a. Determine how many units of each good towns A and B produce and consume before trade opens up.

b. Determine which good each town should specialize in producing when trade opens up.

c. Determine how many units of each good towns A and B should trade in order to make both towns better off.

d. Suppose that town A discovers a new production technology that allows them to double their production of smart phones but does not affect their ability to produce pasta. Show the new production possibilities frontier town A on a graph.

e. Given the change described in part (d), determine which town has comparative advantage in producing pasta and which town has comparative advantage in producing smart phones.

f. In this case, determine how much of their labor force towns A and B should allocate for the production of each good and how much of each good they should trade in order to make both towns better off (assuming that the pre-trade allocation of labor force is still the same).