Exercise 7 Russia and China both produce two goods: cellular telephones, a tradable good designated as T, and haircuts, a nontradable good designated as N. Each good is produced in competitive markets in a single process. Workers receive the marginal productivity for their labor.

Suppose there are no trade costs for cellular phones, while for haircuts they are prohibitively high. The rate for per hour work is w rubles in Russian and w yuans in China. S represents the nominal exchange rate defined in terms of rubles per yuan. Suppose that in one hour of work a Russian laborer is able to produce yT 5 30 telephones, while the Chinese produces y

T 5 15 telephones per hour. In both countries, one worker is able to produce only one haircut per hour. Suppose the price of a cellular phone is 1 ruble.

a. If S 5 0.5, what is the price of the cellular telephone in yuans?

b. What would be the hourly wage in Russia, assuming that the labor market is competitive, so that workers receive as salary the value of their productivity? What would be the hourly wage in China in yuans?

c. What would be the price of haircuts in each country?

d. Suppose that cellular telephone productivity in China doubles. What would happen to the price of haircuts in China? What would happen to the real exchange rate between Russia and China?