Part I
Do the following two numerical problems:

1. Let us assume that the world consists of two countries: lceland and Finland. There are only two goods: fish and wheat. The only factor of production is labor. ln lceland L unit of labor is required to produce a unit of fish or a unit of wheat, while in Finland 0.5 units of labor are required to produce a unit of fish and 0.25 units of labor are required to produce a unit of wheat. There are 1 million units of labor in lceland and 1.5 million in Finland.

A. Which country has an absolute advantage in fish? ln wheat? Which country has a comparative advantage in fish? ln wheat?

B. Find the autarky relative price of fish in both countries.

C. Derive and draw the world relative supply curve.

D. lf consumers always spend one-fifth of their income on fish and the remainder on wheat, draw the relative demand curve in the same figure where you drew the relative supply. [Hint: This means PwQw = 0.8(lncome) and PfQf = 0.2(lncome), which in turn means PwQw = 4PfQf, which means Qf/Qw=0.25 (Pf/Pw) is the relative demand equation.]

E. What is the equilibrium relative price of fish under free trade? What does lceland export? What does Finland export?

F. Do both countries gain from trade?

2. Consider an economy that produces tea and rice. Each requires a different type of land, so the flat, low-lying flood land used for rice is a factor specific to rice and the hilly land used for tea is specific to tea. However, labor can move freely between the two sectors, so that wage paid to labor in both sectors is the same. Suppose the marginal product of labor in the tea sector is given by 120 -Lt where Lt is the number of workers in the tea sector, and the marginal product of labor in the rice sector is given by L20 - Lr where Lr is the number of workers in the rice sector. Suppose there are 120 workers in the economy (i.e., Lt + Lr=120 or Lt= 120 - Lr).

A. lf the world price of tea and the world price of rice are both 51 per unit, and if the country has a free trade policy (so that the domestic price of each product is equal to the world price), find the equilibrium allocation of labor to each sector and the wage.

B. Now suppose that the world price of rice doubles (equals 52 now). Repeat the analysis in A with this new price.

C. Who gains and who loses from this doubling of the rice price?

Part ll
State whether the following are true, false or uncertain. Give reasons. No credit will be given if reasons are not provided.

A. ln a specific-factors model, in which capital and labor are used to produce cloth while land and labor are used to produce food, any inflow of foreign capital into the economy will make workers and landowners worse off.

B. Comparative advantage provides a powerful argument in favor of producing all food domestically (food self-sufficiency) as a development strategy.

C. Leontief found strong evidence supporting the predictions of the Heckscher-Ohlin model.

D. Let us consider a Heckscker-Ohlin world with two countries, Home and Foreign and two goods, Cloth and Food, both produced using labor and capital. Let Food be the capital intensive good and Cloth the labor-intensive good. Let us also assume that Home is labor-abundant. When Home and Foreign move from autarky to free trade, workers are made worse off in both countries.

E. Let us think of a world with two countries, with only one (same) good being produced in both countries. The two countries are endowed with the same amount of capital but the number of workers differ. Technology is the same in both countries. Allowing for free labor mobility makes capitalists in the country that is initially labor abundant better off.

F. lnternational trade models do not help us in our understanding of trade politics.

G. Since economic size is negatively correlated with trade, the US trades a lot with Canada.

H. The province of Ontario in Canada and the state of Ohio in the US are equidistant from British Columbia in Canada and therefore have the same amount of trade as a
proportion of their respective GDPs with the province of British Columbia.

Part I Do the following two numerical problems: 1. Let us assum...