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ECON 4083 International Trade, Semester 2, 2021-2022

Assignment 2

1. (40 marks) Assume that there are two countries (A and B) and two goods (cloth and food) only in the world markets. The residents in country A and B spend their income equally between cloth and food.

Country A’s production possibilities frontier (PPF) is , where  and are the output of cloth and food in country A, respectively. Country B’s PPF is , where  and are the output of cloth and food in country B, respectively. So, the opportunity cost of 1 unit of cloth in country A is  units of food, and the opportunity cost of 1 unit of cloth in country B is  units of food.

a) (6 marks) Draw the PPF curve for each country.

b) (6 marks) Derive the relative supply of cloth to food as a function of  for each country.

c) (2 marks) Derive the relative demand of cloth to food as a function of .

d) (6 marks) Find the equilibrium relative price of cloth in each country, if they don’t trade with each other. Label these equilibrium prices in an appropriate graph.

e) (6 marks) Find the cloth-food bundle that each country produces and consumes in the absence of international trade. Label these bundles in appropriate graphs.

f) (6 marks) Confirm that, under free trade in the world markets, the equilibrium relative price of cloth to food . (Hint: You need to find the output bundles in each country and use them to calculate the relative supply of cloth to food at the relative price.)

g) (6 marks) Find the consumption bundle of country A under free trade. Label country A’s output and consumptions bundles in a graph using appropriate curves and lines. (Hint: You can assume that  in the world markets without loss of generality.)

h) (2 marks) Which good will country A export? And how much will country A export this good?

2. (30 marks) Let there be two countries, A and B in the world economy. The two countries have the same production technology and identical relative demand . The factor supplies of the two countries are fixed. The Suppose Country A produces toys (T) and mobile phones (M). Both goods use labor (L) and capital (K) in production. The unit labor and capital input requirements of toys and mobile phones are fixed:

Suppose both goods are produced both before and after trade.

a. (2 marks) Which good is capital intensive? Why?

b. (5 marks) Since the markets are competitive, write out the zero profit conditions for the two industries.

c. (3 marks) Suppose that before trade, the good prices in country A at P_T = 10 and P_M =10 while the prices in country B are P_T^* = 8 and P_M^* = 5. If A and B open up to international trade, what will be the pattern of trade between the two countries?

d. (6 marks) How would trade influence the factor prices in country A? (You may assume that only P_M changes but P_T remains at the same level.)

e. (5 marks) Suppose both countries produce both goods T and M in the trading world economy. Would free trade lead to factor price equalization between countries A and B? Why?

f. (9 marks) Does trade make the workers and the capital ownersof country A better off or worse off? Consider  where w and r are the wage and rental, respectively.

3. (30 marks) Read the paper “The Rise of Middle Kingdoms: Emerging Economies in Global Trade” (Hanson (2012), Journal of Economic Perspectives) and answer the following questions.

a. (6 marks) What are the main reasons for the expansion of South-South trade between 1994 and 2008? Why is there a double counting problem in international trade (pages 45-46)?

b. (6 marks) “The integration of the low-income and middle-income countries into the world revive sthe Heckscher-Ohlin model and the theory of comparative advantage.” Do you agree?

c. (6 marks) Describe the specialization and trade patterns of China between 1994 and 2008.

d. (6 marks) Use the data below to compute the capital-labor ratio of China from 2001 to 2020. Construct a graph similar to Figure 2 in the article to show the shares of China’s total exports for footwear (HS 64) and telephone sets (HS 8517).

e. (6 marks) Do you think that the results in part d is consistent with the prediction of the Heckscher-Ohlin model? How may government policy and the niches of the Chinese products cause those changes?