4431WSum07Midterm1

1 Midterm 60 minutes Econ 4431W: International Trade Michael Walrath June 28 th , 2007 ? Carefully read all instructions. ? Show all of your work in the bluebook provided. You MUST make it clear what question you are answering. ? Clearly highlight/circle solutions. ? Graphing calculators are NOT allowed (basic calculators are). You may leave answers as fractions. ? Fully label all graphs. ? Read each question carefully and be sure to answer all parts of every question. ? There are 115 points possible in this test. There should be 4 pages including the cover sheet. 2 Question 1 (25 points): Consider an economy with two countries (Country 1, Country 2) and two goods (Good x, Good y). Each country produces the goods according to: Good x Good y County 1 2 hours / unit 1 hour / unit Country 2 1 hour / unit 2 hours / unit Both countries have 50 hours of labor available. Each country has utility represented by: )ln(5.1)ln(),( yxyxu += . (a) Solve for prices and quantities in Country 1in the case of autarky. (b) Solve for prices and quantities in Country 1 in the case of free trade (assume complete specialization and make good x the numeraire good). (c) For Country 1 draw the PPF for the autarky case and the CPF for the trade case on the same diagram. Indicate the optimal consumption bundles both in autarky and free trade. (d) How many hours would Country 1 need to produce the bundle given in part (b)? Question 2 (15 points): Consider an economy with 2 countries, Country 1 and Country 2, and 2 goods, good x and good y. Country 1 and Country 2 can produce goods as follows: Good x Good y Country 1 4 hours / unit 5 hours / unit Country 2 8 hours / unit 8 hours / unit (a) In order to transport one unit of each good from one country to the other, 3 extra hours of labor are needed. Exporters bear the transportation cost. Would trade between the two countries still take place? Explain. (b) What would happen if new technology makes only 1 hour of labor necessary to transport good y from Country 2 to Country 1. 3 Question 3 (25 points): This question deals with a Neo-Classical framework. Consider an economy with two goods, x and y, that are perfect complements (a person would have a utility function given by },min{),( yxyxu = ). Assume that the PPF is concave. Suppose that the free trade price ratio y x p p is lower than the autarky price ratio. (a) The Neo-Classical framework allows for a PPF to be concave (bowed out). The Ricardian framework does not allow for a concave PPF. What is the basic difference between these two frameworks that causes the difference between possible PPF shapes? (Brief answer.) (b) In which good does the country have a comparative advantage? Use a diagram to illustrate your answers for parts (c) and (d). (c) With free trade how will the quantities produced of each good change? (d) With free trade how will the quantities consumed of each good change compared to autarky? (e) If this country had standard convex preferences, could you answer part (d) with certainty? (f) Which good will the country export? (g) Which good will the country import? Question 4 (15 points): (a) Draw two different (identical) offer curve diagrams illustrating an initial trading equilibrium between Country 1 and Country 2 (both large). Country 1 exports x. Country 2 imports x. Consider Country 1?s offer curve fixed. Only Country 2?s offer curve can move. Country 2 has an increased preference for trade. (b) Is it possible for Country 2 to decrease the amount it imports? (c) Is it possible for Country 2 to increase the amount it imports? (d) For whichever part(s) you said yes to, illustrate the different cases in the diagrams you made in part (a). (e) Briefly explain the intuition of your answers in parts (b) and (c). 4 Question 5 (35 points): This question deals with the Heckscher-Olin Framework. All assumptions of the H-O model apply below. There are two countries (1 and 2), two goods (x and y) and two factors (K and L). Each country has factor endowments depicted by the following Edgeworth boxes: (a) For each country say which input that country has a relative abundance (a relative greater endowment) in. Explain how you know this. (b) Which good (x or y) is capital intensive? Which good is labor intensive? Explain how you know this. (c) Draw the PPF for each country using the information above. (d) After trade how would production change in each country? (e) What good would each country export/import? (f) In Country 1, after trade, which group (labor, capital owners) would see an increase in real income? Which group would see a decrease in real income? Briefly explain how you know. Country 1?s Edgeworth Box Country 2?s Edgeworth Box 1 L 2 L 2 K 1 K Contract Curve x 0 x 0 y 0 y 0 y 0 y 0 x 0 x 0 walrath Microsoft Word - 4431WSum07Midterm1.doc