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There are two countries Home and Foreign. Home has 1,200 and Foreign has 800 units of labor with which they can produce two goods Wheat

There are two countries Home and Foreign. Home has 1,200 and Foreign has 800 units of labor with which they can produce two goods Wheat and Cloth. Home requires 3 units of labor to produce one unit of wheat while 2 units of labor to produce one unit of cloth. Foreign's unit labor requirement in wheat and cloth is 5 and 1.

  1. Graph production possibility frontier for Home and Foreign. What is the opportunity cost of wheat in terms of cloth in Home and Foreign? What would be the relative price of wheat? why?
  2. Construct the world relative supply curve.
  3. Construct the world relative demand curve if the world relative demand of wheat takes the form : demand for wheat/demand for cloth = price of cloth/ price of wheat -- Qw/Qc = Pc/Pw. Graph the relative supply and demand curves and find the equilibrium relative price of wheat?
  4. Describe the pattern of trade and show that both Home and Foreign grain from trade.
  5. Now suppose Home has 2400 units of labor. Find the equilibrium relative price and division of the gains from trade between Home and Foreign.

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