Exercise 12 KEY ECON 460 Fall '96 Kilkenny

1. re: Comparative Advantage, relative prices, protectionism HOUCK text Chs2-3

2. The aLF/aLM for Alphaland is 1/1. aLF/aLM for Betaland, however, is 1/2 .

There are a couple ways to prove this: (i) Remember that the PPF is the full employment constraint: L = aLF*QF + aLM*QM. The graphs in the Houck text have F on the vertical axis. So the graphing equation is L/aLF - aLM/aLF * QM. The slope of 2 is the ratio with aLM in the numerator. You are asked for inverse of that, with aLF in the numerator. The inverse of 2 /1 is 1/2.

(ii) Another way to prove it is to remember that the intercept on the F axis (40) is L/aLF; and the intercept on the M axis (20) is L/aLM. To get aLF/aLM divide the M intercept by the F intercept: invert and multiply; the L cancels out. It is clear that aLF/aLM = 20/40.

3. The REAL cost of Food in Alphaland is 1. The real cost of Food in Betaland is 1/2. Betaland has relatively cheaper food, so Betaland has the Comparative advantage in Food. Alphaland has the Comparative Advantage in Manufactures since they cost 1 in Alphaland and 2 in Betaland.

4. The relative price Pf/Pm, after trade, of Food will be between the low autarky price of 1/2 in Betaland and the higher autarky price of 1 in Alphaland. Neither country would trade if it couldn't get at least as high a price for it's exports while paying no higher price for their imports compared to their own autarky prices.

5. The text outlines the "nine reasons" for protectionism. We shall be refuting each reason, one by one, during lectures:

1. infant industry

2. national security

3. as health restrictions

4. anti-dumping

5. reinforce domestic programs

6. attempt to protect balance of payments

7. improve terms of trade

8. generate government revenue

9. avoid or slow painful adjustment