Question

Suppose Home has 2,000 units of labor available. It can produce two goods, clothing (C) and wheat (W). The unit labor requirement in clothing production is 5, while in wheat production it is 2.

(1 point) a. Let QC and QF be the quantities of clothing and wheat produced, derive Home’s production possibility frontier (PPF) and graph it.

(1 point) b. What is the opportunity cost of clothing in terms of wheat?

(1 point) c. What and how much does Home produce when the relative price of clothing is 3,i.e.,pC/pF =3?

(1 point) d. Which workers (clothing workers or wheat workers) earn higher wages when the relative price of clothing is 2.5, i.e., pC /pF = 2.5?

(2) Home is as described above. Now suppose there is another country, Foreign, with a labor force of 3,000. Foreign’s unit labor requirement in clothing production is 2, while in wheat production it is 4.

(1 point) a. Which country has an absolute advantage over the other in clothing production? Which has a comparative advantage over the other in wheat production?

(2 points) b. What and how much do Home and Foreign produce, respectively, when the world relative price of clothing is 0.5, i.e., pC /pF = 0.5.

(1 point) c. What is the range for the relative price of clothing under free trade?

(1 point) d. Suppose the world relative price of clothing under free trade is 2, i.e., pC /pF = 2. Describe the pattern of trade between Home and Foreign.

(2 points) e. Show that both Home and Foreign gain from trade at pC /pF = 2.

Answer 1

A ) Production possibility curve/frontier shows the various combination of two goods that can produce with a given level of resources and a given level of technology when they are fully and efficiently utilised.

This curve is known as production possibility curve /production possibility frontier.

B) Opportunity cost is the value of the next best foregone alternative

Unit of labour requirements in clothing production =5

Unit of labour requirements in wheat production =2

opportunity cost of clothing in terms of wheat

Opportunity cost of production 2 wheat is 5 clothing

Opportunity cost of production 1 wheat is 2.5 clothing.

C) Relative price of clothing =3

Labour cost of clothing =5

Production of clothing =5*3=15

D) Relative price of wheat is not given. So we can't compare price of clothing and wheat