2 Trade Creation and Diversion The demand and supply of apples in the Home (#) country are described by the following relationships: = 100 - 10P Q" = 10P There are two countries with which Home can trade apples, Foreign (F) and the Rest of the World (W). H is small vis a vis both F and W. In F the current equilibrium price for apples is pr = 1.1; in W the equilibrium price in instead given by PW = 1. Answer the following questions: 1. If trade is free, will # be a net importer or exporter of apples? With which country will # trade? 2. The government in # has decided to adopt a non-discriminatory policy that will increase the equi- librium price in Home to PH = 1.2. Solve for the new equilibrium (i.e. determine the quantities demanded and supplied). Will the Home country import/export apples? From which country? 3. The government in # has launched talks with F for the establishment of a customs union. You have been hired to provide advice and determine whether the CU is desirable from the point of view of country H. What is your conclusion (please provide a numerical answer)? Please use the concepts of trade creation and trade diversion to explain your findings. 4. Consider now a slightly different scenario. The equilibrium price in W is still PW = 1, whereas now PF = 1.01. Moroever, the initial non discriminatory policy is such that the equilibrium price in H is ph = 1.4. Once again, the Home country is considering whether to enter or not in a CU with F. What is your advice now? What is the intuition for your findings