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2 Consider a Specific Factors model with two countries, Home H and Foreign F, three factors of production, labour L, capital K and land T, and two goods, cars c and bread b. The production functions are the same in both countries and given by: 21 Fe(Ke, Lc) = K³ Lễ and Fu(Lv, Tv) = L

2 Consider a Specific Factors model with two countries, Home H and Foreign F, three factors of production, labour L, capital K and land T, and two goods, cars c and bread b. The production functions are the same in both countries and given by: 21 Fe(Ke, Lc) = K³ Lễ and Fu(Lv, Tv) = L

ENGR.ECONOMIC ANALYSIS
ENGR.ECONOMIC ANALYSIS
14th Edition
ISBN:9780190931919
Author:NEWNAN
Publisher:NEWNAN
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
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2 Consider a Specific Factors model with two countries, Home H and Foreign F, three factors of production, labour L, capital K and land T, and two goods, cars c and bread b. The production functions are the same in both countries and given by: Fo(Ke, Le) = K L and Fu(Lb, Ti) = LT. Denote the factor prices by r for capital, w for labour and q for land. The price for cars is pc, the price for bread pb. Home's factor endowment is given by KH = 8, LH = 1 and TH = 1, Foreign's factor endowment by KF = 1, LF 1 and TF = 1. Suppose that relative demand for the goods is the same in both countries: Normalise bread price ie P₁ = PH= PF=1 H H H H x²/x = p/p² and ²/x = pi/p². a) Derive autarky equilibrium good and factor prices in both Home and foreign and show that PH<PF b) Now home and foreign start free trade in goods, but not in factors. Which goof will home export, which good will foreign export? Will capital owners, landowners and workers be better or worse off in home with trade? Explain c) Suppose a natural disaster causes 7/8 of the land in foreign to unsuitable for production, ie Foreign's land endowment decreases by 7/8, while all other parameters remain unchanged. What are the trade flows in the new equilibrium with free trade in goods? Which factor owners will strictly benefit?
Transcribed Image Text:2 Consider a Specific Factors model with two countries, Home H and Foreign F, three factors of production, labour L, capital K and land T, and two goods, cars c and bread b. The production functions are the same in both countries and given by: Fo(Ke, Le) = K L and Fu(Lb, Ti) = LT. Denote the factor prices by r for capital, w for labour and q for land. The price for cars is pc, the price for bread pb. Home's factor endowment is given by KH = 8, LH = 1 and TH = 1, Foreign's factor endowment by KF = 1, LF 1 and TF = 1. Suppose that relative demand for the goods is the same in both countries: Normalise bread price ie P₁ = PH= PF=1 H H H H x²/x = p/p² and ²/x = pi/p². a) Derive autarky equilibrium good and factor prices in both Home and foreign and show that PH<PF b) Now home and foreign start free trade in goods, but not in factors. Which goof will home export, which good will foreign export? Will capital owners, landowners and workers be better or worse off in home with trade? Explain c) Suppose a natural disaster causes 7/8 of the land in foreign to unsuitable for production, ie Foreign's land endowment decreases by 7/8, while all other parameters remain unchanged. What are the trade flows in the new equilibrium with free trade in goods? Which factor owners will strictly benefit?
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