Q1

Suppose there are only 2 goods produced in world: Traded (T) and Non Traded (NT) in 2ountries A and B. The following table shows the information on the production and price of T and NT in A and B.

COUNTRY

T produced per capita

NT produced per capita

Price of T in local currency

Price of NT in local currency

A

200

800

20

35

B

600

2400

30

60

a.Calculate the PPP exchange rate between the two currencies where you are expressing the exchange rate as one unit of currency A in terms of currency B. (2 marks)

b.What is the ratio of GDP per capita in A and B using the PPP exchange rate? (2 marks)

c.Now suppose the Non Traded item also gets traded between the countries. The trade pattern is such that 1 unit of T is sold by Country A to obtain 2 units of NT from country B. Calculate the Nominal exchange rate expressing 1 unit of Currency A in terms of currency B. (HINT: find the price of 1T in terms of Country A's currency and price of 2 NT in terms of Country B's currency. Given the suggested trade pattern find the nominal exchange rate). (2 marks).

d.Given your answer in part c, calculate the ratio of GDP per capita between country A and B. (2 marks)

e.Comparing your answers obtained for parts b. and d. explain what role does the existence of non traded sector play in comparing the GDP ratios. (2 marks).