Assignment 2 This problem set is designed to help you master the concepts and tools covered in Modules 3 and 4. As in assignment 1, question 1 looks at the theory and question 2 requires that you analyze real data. Question 1 Part A (25 points) This question is based on the specific factors model example we went through in class. Suppose two countries, Home and Foreign, produce two goods, timber (T) and computers (C). Assume that land (N) is specific to timber, capital (K) is specific to computers, and labor is free to move between the two 1 industries. The production functions for both Home and Foreign are Cobb Douglas with a = = 5' or = mm C = LEKI'B 1 The utility functions are also identical for Home and Foreign (y = E): U = T7. Cl'l' Assume that Home has 50 units of labor, 16 units of land and 25 units of capital and foreign has 50 units of labor, 25 units of land and 16 units of capital. Note that these are the same assumptions used in the class example, where we showed that the equilibrium trade price of timber relative to computers was equal to 1. You are strongly advised to look at that example and the solutions for autarky and with trade in the lecture notes, before proceeding to answer the following question. a. If Foreign's technology doubled, such that Foreign could produce twice as much timber and computers as Home, with the same amount of labor and capital (i.e., new Foreign production functions shown below), show that the equilibrium trade price cannot be equal to 1 (note that you are NOT required to find the new equilibrium price, but you should be able to say whether it will be higher or lower than 1). Q5: = 2.L"'T'.N*1'\" 0;; = 2.1433 .161"? b. Who would gain from the improvement in technology and why/how? Part B (25 points) Suppose two countries, Canada and Mexico, produce two goods, apparel (A) and motor vehicles (M) using the same factors and production technology. Assume that production of apparel is labor intensive, and production of motor vehicles is capital intensive. Both capital (K) and labor (L) are free to move between the two industries. Assume that when Canada has 100 units of K and 60 workers, while Mexico has 200 units of capital and 150 workers. a. What commodity would Canada export? Why? b. Draw the production possibility frontiers for the two countries? How are they similar and how do they differ? c. Explain how trade between Canada and Mexico would result in winners and losers? d. Explain how trade can result in the labor to capital ratio rising in both sectors in Canada