Question

PROBLEM 1

Consider the typical HO setting: 2 countries, the United States and Canada,  produce two goods, maiz (corn) and cloth, with two factors, land and labor. Both countries share the same tastes and the same technology. Maiz production is land intensive, and therefore cloth production is labor intensive. Furthermore, resource endowments are as follows: in the US there are 100 units of labor and 100 of land, in Canada there are 60 units of labor and 90 of land.

1. Which is the labor abundant country? Which is the land abundant country?
2. In autarky, in which country is the wage-rental ratio (w/r) higher? Why?
3. In autarky, where do you expect the relative price of  cloth to be higher? Why?
4. In free trade, what will be the pattern of trade? Why? Which theorem applies in this case?
5. Explain the gains from tradein the US.
6. Does anybody lose from trade? Give some intuition for your answer. (Make sure to consider not only countries as a whole, but within countries). Which theorem applies in this case?
7. What is the difference between gains from tradeand income distribution effects of trade?

Problem 2

Suppose when Japan opens to trade, it imports rice, a labor intensive good.

1. According to the Heckscher –Ohlin theorem, is Japan capital abundant or labor abundat? Explain.
2. What is the impact of opening trade on the real wage in Japan?
3. What is the impact of opening trade on the real rental rate on capital?
4. What does the Heckscher Ohlin model assume about labor mobility across industries? Across countries?
5. Which group (capital owners on workers) would support policies to limit free trade? Why?

Problem 3:

Suppose that Belgium and Denmark both have 100 units each of capital and labor, and that they share the same CRS technology with which they produce beer and cheese. However, tastes differ in the two countries: consumers in Belgium have a strong preference for cheese, and consumers in Denmark have a strong preference for beer. Will there be trade? What would you expect the pattern of trade to look like? Do you think we can still talk about comparative advantage in this case? Why or why not?

(To answer, first draw the PPF – how do they look different/the same? – and then the indifference curves - how do they look different/the same? How do the price lines look? Without even drawing the PPFs and the indifference curves, where would you expect the relative price of cheese to be higher/lower?)

Answer 1

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