1. Suppose that each worker in the home country can produce 7.5 cell phones or 3 doorknobs. Assume
that Home has 6 workers.
(a) Graph the production possibilities frontier for the home country (with doorknobs on the horizontal
axis).
(b) What is the no-trade relative price of cell phones at Home? What is the opportunity cost of
producing one unite of doorknobs in term of cell phones?
Suppose that each worker in the Foreign country can produce 3 cell phones or 7.5 doorknobs. Assume
that Foreign also has 6 workers.
(c) Graph the production possibilities frontier for the Foreign country.
(d) What is the no-trade relative price of cell phones in Foreign?
(e) Using the information provided in problem 1 regarding Home, in which good does Foreign have a
comparative advantage and why?
(f) Suppose that in the absence of trade, Home consumes 15 cell phones and 12 doorknobs and Foreign
consumes 12 cell phones and 15 doorknobs. Add the indierence curve for each country to the
gures in problems (a) and (c). Label the production possibilities frontier (PPF), the indierence
curve (U1), and the no-trade equilibrium consumption and production for each country. Label
Home and Foreign’s no-trade consumption points as A and A*, respectively.
(g) Now the two countries open up to trade. Graph the World PPF.
Now suppose the world relative price of cell phones is PC
PD
= 1
(h) What good will each country specialize in? Briey explain why.
(i) Graph the new world price line for each country in the gures in problem 3, and add a new
indierence curve (U2) for each country in the trade equilibrium.
(j) Label the exports and imports for each country. How does the amount of Home exports compare
with Foreign imports? (No numbers/calculations needed, just graph.)
(k) Does each country gain from trade? Briey explain why or why not
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2. Refer to the following table. Assume there are two workers in Mexico and three workers in the United
States.
Mexico United States
Bottles of tequila produced per hour 7 5
Bushels of wheat produced per hour 5 10
(a) Determine the pre-trade relative price of tequila in Mexico and the United States.
(b) Given your answer in part (a), which country has a comparative advantage in the production of
wheat?
(c) What is the lowest international relative price of tequila Mexico is willing to accept in order to
engage in trade with the United States? Explain why.
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