Question

2. The European Union (EU) and United States (US) demand and supply equations for corn are:

QDEU = 70 – 2 PEU             QSEU = 20 + 3PEU

QDUS = 130 – 3PUS QSUS = 30 + PUS

where QD and QS represent the quantities demanded and supplied in both countries (in billions of tons) and P represents the Dollar price per ton of corn in each country.

a. Graph the US and European Union supply and demand curves for corn (what are     the intercepts?).

b. Determine the US and European Union equilibrium prices in the absence of trade.

c. Find the surplus (or shortage) in both countries at the price of $ 20.

Now assume that there is free trade between the European Union and US.

d. Determine the international equilibrium price of corn (per ton).

e. How much corn is produced and consumed in the European Union and US.

f. How much corn is traded between the two regions. Draw graphs to represent the market situation before and after trade.

Suppose now that the US limits its imports of corn to 14 billions of tons.

g. What will be the new equilibrium prices of corn in the European Union and US? h. What are the new domestic production and consumption levels in each region? How much corn is traded?

Answer 1

f. QD_EU = 70 - 2P_EU

QS_EU = 20 + 3P_EU

At equlibrium: QD_EU = QS_EU

70 - 2P_EU = 20 + 3P_EU

3P_EU + 2P_EU = 70 - 20

5P_EU = 50

P_EU = 10

QD_EU = 70 - 2*10 = 50

QS_EU = 20 + 3*10 = 50

So for EU, the quantity demanded is equal to quantity supplied.

For US

QD_US = 130 – 3P_US

QS_US = 30 + P_US

At equilibrium: QD_US = QS_US

130 – 3P_US =  3 + P_US

4P_US = 127

P_US = 31.75

QD_US = 130 – 3*31.75 = 34.75 = 35

QS_US = 30 + 31.75 = 61.75 = 62

Hence for US there is less of demand and more of supply. This means that US has comparative advantage in producing corn than europe. So US can export 62-35 = 27 units of its corn produced to EU.

The diagram shows the trade situation of two countries (first one of EU and second one of US). The EU reaches to equilibrium at 50 unit of quantity and 10 unit of price whereas there is excessive supply in case of US.

The after trade diagram is depicted above. Due to trade between EU and US, there is an increase in EU supply of corn. Hence the supply curve shifts to right with reaching equilibrium at Q^' and P^' . US on another hand will export up to that quantity of corn till it reaches equilibrium.