Download Econ 464 M. Muniagurria Ricardo Problems Consider a Ricardian

Econ 464
M. Muniagurria
Ricardo Problems
Consider a Ricardian Model of two countries (Chile and Mexico) and two goods (Textiles and
Wine). The production technologies are specified by the unit labor requirements shown below:
Chile
Mexico (*)
Textiles (T)
3
4
Wine (V)
1
4
Suppose there are 120 units of labor in each country, consumers have “nice” and identical
preferences and both commodities are consumed in autarky. Since no specific utility
functions/indifference curves are provided the consumption bundles would depend on the
particular indifference curves you draw (the word “possible” refers to any such bundles) .
Justify fully. Use a diagram or an equation when you are able to do so (when drawing PPF’s
use the horizontal axis for Textiles).
Answer questions (1) to (8).
(1) Graph the production possibilities frontier and a possible autarky point for both
countries (put Textiles in the horizontal axis).
(2) What are the autarky relative prices pT / pV in each country? Which country has a
comparative advantage in Wine?
(3) Draw a possible excess demand function for Wine in Chile.
(4) Calculate the real wage in terms of Textiles and the real wage in terms of Wine for
Chile in autarky.
Suppose that when both countries Trade Freely, the relative price of Textiles in terms of wine is
2, (i.e. pT/pV = 2).
(5) Draw a new graph for Mexico showing: the free trade production point, a possible
consumption point, exports and imports.
(6) Calculate the real wage in terms of Textiles and the real wage in terms of Wine for
Mexico under Free Trade.
(7) Assume that Textiles is used as a numeraire (i.e. pT = 1). Calculate the average cost
of producing Textiles and Wine in Mexico under Free Trade.
(8) (8 pts) Draw the World Relative Supply Curve (put pT/pV in the vertical axis, T + T*
/ V + V* in the horizontal axis and identify where the jump occurs). Draw a “nice” World
Relative Demand curve that crosses the World Relative Supply curve at the stated free trade
price ratio
Suppose both countries have been trading for many years when Chileans discover a better way to
produce wine.
As a result, the marginal product of labor in the Chilean wine sector is now 1.5 (i.e. MPLV =
1.5). Everything else in the two countries stays the same.
Suppose further that both countries are still trading freely and positive amounts.
Answer questions (9) to (11). Justify fully.
(9) Draw the new PPF for Chile.
(10) What is the new autarky relative price pT / pV for Chile? Which country has a
comparative advantage in Wine?
(11) ) Draw the new World Relative Supply, the old one and the World Relative Demand
to determine what will happen to the Free Trade equilibrium relative prices.