1. This question asks you to use the Production Possibilities Frontier and Societal Indifference Curve diagram to evaluate government policies. Start from an initial situation in which the autarkic price of good X is 20 and the autarkic price of good Y is 20.

a) Without trade with the rest of the world, show whether society is better off with a subsidy on good Y of $5 per unit (compared to no intervention). In particular, show how much of each good is produced and how much is consumed. Show how the ratio of the prices faced by producers and the ratio of the prices faced by consumers with the subsidy can be seen on your graph?

b) Now consider that the country opens up to world trade and the world price of good X is 25 and the world price of good Y is 10. This question asks you to compare welfare under two policies: the country gives a subsidy to producers of $5 per unit on Good Y or the country implements a tariff of $5. Which policy makes the country better off? . In particular, show how much of each good is produced? Show how much is consumed? What is the ratio of the prices faced by producers and what is the ratio of the prices faced by consumers in the two situations?

[note: for this problem, you do not need to calculate exact quantities, though you should show these on your graph]