1. There are two countries, the U.S. and Europe, and two goods, wheat (W) and cloth (C).The assumptions of the Heckscher-Ohlin model are satisfied, with two factors of production labor L and capital K.Wheat is capital intensive and cloth is labor intensive.The U.S. is endowed with 100 units of L and 150 units of K, while Europe has 200 units of L and 250 units of K.

Which country is abundant in what factor?Which country will export what good? (2 pts)

Suppose the countries go from autarky to free trade.What do we expect to happen to the real return to labor (the wage) and capital (the rental rate) in each country? (2 pts)

1. This question is about trade policy.

List and briefly explain two distinct reasons that a country might want to have positive tariffs on foreign goods. (2 pts)

Given that there are many reasons why governments might be motivated to have significant tariffs on foreign goods, why do we have so many trade agreements to limit them? (2 pts)

1. This question is on the basics of exchange rates and the foreign exchange market.

What is the definition of the exchange rate between the dollar and the Euro,? (1 pt)

Describe a forward exchange rate contract and define the dollar-euro forward rate. (1 pt)

Define uncovered interest parity (UIP) by writing down the equation that holds if UIP holds for dollars and euros.Explain the derivation of this equation in terms of two hypothetical investment/currency trading strategies that must have equalexpectedrates of return in dollars. (2 pts)