Question

1. Assume we divide up the world into two regions: the United States and the rest of the world. We will examine the competitive market for simple 2 GB flash drives and the trade between the United States and the rest of the world. We know the supply and demand conditions in each region, which are summarized below: Rest of the World: Supply curve: P=3+Qs P: Price of flash drives Qs: Quantity of flash drives supplied (millions) Demand curve: P= 12 -2*ld Qa: Quantity of flash drives demanded (millions) United States: Supply curve: P= 2 + 2 *Qs Demand curve: P= 17 - la With that information, you find that the equilibrium price of flash drives is p*=$6 in the rest of the world before trade opens, and Q*= 3 (million) flash drives will be produced and sold. In the United States, the equilibrium price of flash drives is $12, and Q*=5 (million) flash drives will be produced and sold before trade opens. Please use the information above to answer the following questions, and please show your work. a. Plot the supply and demand curves for the United States before trade opens on a supply and demand diagram. Please clearly indicate the equilibrium price and quantity of flash drives before trade opens and label where each of the supply and demand curves intersect the vertical axis. (8 points) b. Compute consumer surplus, producer surplus, and total surplus for the United States before trade opens. (6 points) c. Now, assume trade opens between the United States and the rest of the world. Which country will export flash drives? Which country will import flash drives? Why? (4 points) d. Compute the export supply curve for the international market. Hint: use the excess supply for the exporting country. (6 points) e. Compute the import demand curve for the international market. Hint: use the excess demand for the importing country. (6 points)

Answer 1

a. Demand curve for U.S. is P=17-Q_d

When P=0,Q_d=17 and when Q_d=0, P=17. Thus, plotting quantity on the horizontal axis and price on the vertical axis, demand curve has horizontal and vertical intercepts of 17 each as shown on the demand-supply diagram.

Now, Supply curve for U.S. is P=2+2Q_s

When P=0,Q_s=-1 and when Q_s=0, P=2. Thus, plotting quantity on the horizontal axis and price on the vertical axis, supply curve has horizontal and vertical intercepts of -1 and 2 respectively as shown on the same demand-supply diagram.

Price Supply 17 C.S 12 P.S 2 Demand Quantity 5 -1 0 17

Here, equilibrium quantity is 5 units and equilibrium price is $12.

b) Before trade opens, Consumer surplus = Area below the demand curve above equilibrium price level = 1/2*base*height = 1/2*5*(17-12) = $12.5

and Producer surplus = Area above the supply curve below equilibrium price level = 1/2*base*height = 1/2*5*(12-2) = $25

Total surplus = C.S+P.S = $37.5

c) As equilibrium price level for rest of the world is lower than U.S, U.S will import flash drives while rest of the world will export them.

d) Export supply P'= Excess supply for exporting country = Supply for rest of the world - Demand for rest of the world

or, P' = 3+Q-(12-2Q)

or, P'= -9+3Q

e) Import demand P'' = Excess demand for importing country = Demand for US - Supply for US

or, P'' = 17-Q-(2+2Q)

or, P'' = 15-3Q