UNIT 2

WORLD TRADE EQUILIBRIUM IN

RICARDIAN THEORY

Professor: Álvaro de la Barra Croquevielle

August, 2023
 Trade Equilibrium with an International
relative Price: Example
Cars Cars
Qc
P ͥ = World Relative
Price, Pm/Pc

Slope
Qc (alm/alc)
P ͥ = (Pm/Pc)
P ͥ = (Pm/Pc)

Slope
(alm/alc)

Machines Machines
Qm Qm

-If P ͥ > (alm /alc), then the country specializes in the production of Machines. (Left graph)
-If P ͥ < (alm /alc), then the country specializes in the production of Cars. (right graph)
-If P ͥ = (alm /alc), then any production on the PPF maximizes the value of revenue.
- Gains from trade if P ͣ ≠ P ͥ = (alm /alc). P ͣ = Price in Autarky.
 Technology and Comparative
Advantage
• Suppose that (alc/alm)*
Pc/Pm (foreign country) >
(alc/alm) (local country)
• The foreign country is
relatively more
aLc*/ aLm* RS’
productive in machines
than cars.
• The foreign country has a
comparative advantage in
aLc/ aLm RS Machines and the local
RD country in the production
of Cars.
• The country size (L and
L∗) and absolute
Qc/Qm productivity do not affect
the pattern of
comparative advantage.
 Pattern of Specialization and
World Relative Supply
Pc/Pm

alc*/ alm* RS
(world)

alc/ alm

L/alc Qc/Qm
L* /a*lm

-If P ͥ > (alc* /alm*) then both countries will specialize in the production of Cars.
-If P ͥ < (alc /alm) then both countries will specialize in the production of Machines.
-If (alc /alm) < P ͥ < (alc* /alm*) then countries specialize according to comparative
advantage.
 World Trade Equilibrium
Pc/Pm

alc*/ alm* RS
(world)

A
Pͥ

alc/ alm RD
(world)

L/alc Qc/Qm
L* /a*lm

-P ͥ < (alc /alm) and P ͥ > (alc* /alm*) are not equilibrium prices for the world.
-At point A you have trade equilibrium at P ͥ. Countries present complete
specialization. The foreign country in Machines and the local country in Cars.
 World Trade Equilibrium
Pc/Pm

alc*/ alm* RS
(world)

Pͥ A

alc/ alm RD
B (world)

RD’
L/alc Qc/Qm
L* /a*lm

-In B, for instance, there is incomplete specialization. This is the case where P ͥ = (alc /alm).
-Also this can be the case where P ͥ = (alc* /alm*).