Assignment 1 ECON 2610 Winter 2017

Assignment 1  ECON 2610 Winter 2017

Requirement: You need to show the formula(s) you use to arrive to your results (both numerical and qualitative).

Exercise 1

Suppose China and Russia have the unit labor requirements shown below:

(1) Identify which country has an absolute advantage in the production of wheat and which country has an absolute advantage in the production of cloth.

(2) Assume that India has 200 labor hours available, and that China has 300 labor hours available. Putting cloth on the vertical axis, draw the production possibility frontiers for both Russia and China also calculating the exact value of the horizontal and vertical intercepts. What does a straight-line production possibility frontier imply?

(3) Derive the equation of the production possibility frontier in each of the two countries.

(4) For each of the two countries, calculate the opportunity cost of wheat and cloth.

(5) Determine which country has a comparative advantage in the production of wheat and which country has a comparative advantage in the production of cloth.

(6) In correspondence of the “normal outcome of trade,” what is the relationship between the relative price of wheat and the opportunity cost of wheat in the two countries?

(8) Assume that the relative price of wheat in the world markets is 3 (assume P_c=1 and P_w=3). What will the two countries produce? Why?

(9) Given an equilibrium price of 2, demonstrate that there will be gains from trade for both India and China.

Exercise 2

Assume there are two countries, Home and Foreign. Home has 1000 labor hours available. It can produce two goods, apples and bananas. The unit labor requirement in apple production is 2, while in banana production is 4. Foreign has 600 labor hours available. Foreign’s unit labor requirement in apple production is 5, while in banana production it is 1.

(a) Construct the world relative supply curve. [Note: on the horizontal axis there isand on the vertical axis there is ]

(b) Draw the two possible demand curves and identify the possible equilibria.

(c) Identify the “normal outcome of trade,” state what each country produces in correspondence of the “normal outcome of trade” (including the reason behind your statement).

Exercise 3

Suppose that a country produces wine (W) and cheese (C) using its supply of 400 hours of labor (labor hours) and 600 acres of land (acres) (T). To produce a gallon of wine requires 10 hours of labor and 5 acres of land. A pound of cheese requires 4 hours of labor and 8 acres of land.

(a) Which good is labor intensive? Which good is land intensive?

(b) Is it possible for this country to produce 10 gallons of wine and 50 pound of cheese with the resources available? Explain your answer [Hint: you need to check whether both the land constraint and the labor constraint are satisfied]

(c) Putting wine on the horizontal axis and cheese on the vertical axis, graph the production possibility frontier for this economy.

(d) How is the production possibility frontier affected by an increase in the supply of labor by 100 hours? Complete your answer by explaining the implications on the production possibilities of this economy.

Exercise 4

Television production requires 100 hours of labor and 20 acres of land. Rice, on the other hand, requires 2 hour of labor and 4 acres of land for every pound of rice produced. Home has 200 million labor hours and 400 million acres of land, while Foreign has 80 million labor hours and 120 million acres of land.

(a) What is the pattern of trade between these countries as predicted by the Heckscher-Ohlin theory? Explain which country will export what.