Chapter 6 TRADE AND LOCAL INCOME DISTRIBUTION: THE ...

7. The Effects of International Trade:
Suppose two countries have the same technologies and tastes. In each country,
land and labor are required to produce food, and capital and labor are required to
produce clothing, but the foreign country is endowed with a greater supply of
arable land. As a result, the autarky price of food relative to clothing is lower in
the foreign country. Now suppose these countries open up to trade.
(a) What happens to the composition of the output bundle in the two countries
relative to the bundles each produced in autarky? Use a diagram of the
production possibilities frontiers in each country to explain your answer.
(b) What happens to the real incomes of workers, landowners and capitalists in
each country as a result of opening up to trade?
(c) We know that some groups will lose in the shift from autarky to free trade.
Do the gainers gain enough to compensate the losers and still be better off
themselves with trade? (Hint: Think about the gains from trade argument
in the simple economy presented in Chapter 3.)
8. The Dutch Disease:
Consider a country that produces oil for export using capital equipment specific to
the oil-drilling industry. The country also produces and exports iron ore, which
requires equipment specific to the mining industry. Labor is mobile. The country
is small relative to the size of the world markets for oil and iron ore, so producers
take world prices for these commodities as given.
(a) Suppose the price of oil increases. What happens to the wage rate of the
mobile labor in this country? How are owners of the two types of
equipment affected?
(c) This country also produces non-traded food for domestic consumption
using land and labor. What happens to the price of food as a result of this
increase in the price of oil?
(c) How is the return to landowners affected? How does this depend on
income and substitution effects in demand?