Question
In: Economics
The United States and Cuba do not currently trade. Suppose that the price of similar quality...
The United States and Cuba do not currently trade. Suppose that the price of similar quality cigars is higher in the United States than Cuba. If free trade ensues, what will happen to the price of cigars in both countries?
Solutions
Expert Solution
Answer : Without trade the price of cigar in United States is higher than the price of cigar in Cuba. Due to higher price in United States the price cigar will fall in free trade. And due to lower price in Cuba the price will rise in Cuba in free trade. Hence if the price fall in United States then the production level decrease which decrease the domestic supply. For this reason the United States will import cigar. On the other side, if price rise then production level increase in Cuba and face excess supply in the economy. For this reason the Cuba will export cigar. The equilibrium price occur when demand is equal to supply. Now if free trade occur then the United States will import and the Cuba will export. After free trade the world equilibrium price will occur when United State's import level is equal to Cuba's export level. This means that at world equilibrium price, United State's import = Cuba's export. This world equilibrium price will the price of cigar in both countries after free trade. This means that the price of cigar will fall in United States and the price of cigar will rise in Cuba after free trade at world equilibrium price.
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