Sub: Economics

Topic: InternationalTrade

Question:
There is a world with two countries, Canada and India. They produce robots and rugs using capital and labor. Robots are capital intensive and rugs are labor intensive. It is unknown what the supplies of capital and labor are in each country, but it is known that the relative price of robots is higher in India than in Canada in the no-trade equilibria.
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a. Which country is capital abundant according to the Heckscher-Ohlin theorem? b. Given your answer to (a), draw the PPF for Canada. Also draw the indifference curve and the relative price line for the no-trade equilibrium. c. Given your answer to (a), draw the PPF for India. Also draw the indifference curve and the relative price line for the no-trade equilibrium. d. Compare the slopes of the relative price lines for Canada and India that you draw in (c) and (d). What does this comparison tell you about the pattern of trade?

Solution:
a) “A capital-abundant country will produce & export the capital-intensive good, while the labor-abundant country will produce & export the labor-intensive good”. In the above information Robots which is a capital intensive good is costlier in India than in Canada. This implies that Canada is capital abundant country.

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Sub: Economics

Topic: InternationalTrade

b) PPF: Production possibilities is an analysis of the alternative combinations of two goods that an economy can produce with existing resources and technology in a given time period Indifference Curve Robots P* P ** The Slope is less

PPF
PPF

R

R* Rugs

C) Robots Indifference Curve The Slope is less

P* P

PPF
PPF

R

R*

Rugs

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Sub: Economics

Topic: InternationalTrade

d) In Canada, the slope is small for capital intensive good and the higher for labor intensive and vice versa in India. If there is no trade, both the countries will produce both the goods. India has to invest much more capital to produce Robot as compared to Canada. And Canada has to invest much more Labor to produce Rug. So there is a chance to reduce world’s total production. Suppose trade is possible now, then India will produce Rugs, because the opportunity cost of producing rugs is less compared to robots. At the same time, Canada will produce Robots, because for producing rugs Canada has to invest more labor, but it doesn’t have sufficient labor. So Canada will export robots to India and import rugs from India. And there is chance to increase the world’s total production.

** End of the Solution **
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