Suppose two countries, home and foreign, produce two goods, timber and televisions. Assume that land is...

Suppose two countries, home and foreign, produce two goods, timber and televisions. Assume that land is specific to timber, capital is specific to televisions, and labor is free to move between the two industries. When the Home country moves into doing free trade with the Foreign country, the Home country exports timber.

True or False. Explain

1. The Home country produces only timber under free trade.

2. Going from closed economy to free trade, the opportunity cost of TV increases in the home country.

3. Going from closed economy to free trade, there is no change in the real wage for timber, because it is equal to MPL_Timber under both closed economy and free trade.

4. Going from closed economy to free trade, MPK increases.

5. Going from closed economy to free trade, the landowners' living standards increase.

Solutions

Expert Solution

1) Home exports timber , that indicates that Home country is land abundant with respect to capital . So under free trade as per Hecksher Ohlin model we know that Home will have cost advantage in timber . So there will be total gains from trade if Home produces only timber under free trade . : TRUE

2) Home country is expert in making timber since it is land abundant . Before trade opened up Home country had its own opportunity cost of manufacturing TV . After trade it remains same since land is immobile factor and the other factor labour is mobile , also Home may not be capital abundant but it still retains its share of capital . Home's opportunity cost for TV maybe higher than foreign but it does not change after trade opens up . : FALSE

3) After trade opens up , relative price of timber rises in the market . So the returns to the factor specific to timer will also rise . MPL for timber will rise , since all labour will be engaged in tmber production due to specialization : FALSE

4) MPK will increase in foreign since due to specialization after trade opens , labour in foreign country will only be engaged in TV production : TRUE
4) TRUE

Rahul Sunny answered 1 year ago

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