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Problem Set 1

The document outlines a problem set for a course on International Trade, focusing on the Ricardian Model in a two-country economy scenario involving Home and Foreign. It includes tasks such as deriving the relative demand curve, determining relative supply under specialization, and analyzing terms of trade and market equilibrium. Additionally, it discusses the relationship between technological advancement and wage rates in a free trade equilibrium context.

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Abdullah Shahzad
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6 views1 page

Problem Set 1

The document outlines a problem set for a course on International Trade, focusing on the Ricardian Model in a two-country economy scenario involving Home and Foreign. It includes tasks such as deriving the relative demand curve, determining relative supply under specialization, and analyzing terms of trade and market equilibrium. Additionally, it discusses the relationship between technological advancement and wage rates in a free trade equilibrium context.

Uploaded by

Abdullah Shahzad
Copyright
© All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PDF, TXT or read online on Scribd

International Trade

Prof. Dr. Udo Kreickemeier


Tarah Lynn Ramthun
Georg-August-Universität Göttingen
Winter term 2025/26

Problem Set 1: Trade and Technology – The Ricardian Model

Consider a two-country world economy, with countries Home and Foreign.


In Home, there is a representative consumer who offers inelastically L units of labour and
derives utility from the consumption of two goods, c1 and c2 . The preferences are represented
by the utility function
U (c1 , c2 ) = cb11 cb22 ,
where b1 and b2 denote the expenditure shares for good 1 and 2, respectively, and b1 + b2 = 1.
The wage rate is denoted by w, and commodity prices are given by p1 and p2 . Outputs of goods
1 and 2, y1 and y2 , are produced by a Ricardian technology of the following form
L1 L2
y1 (L1 ) = , y2 (L2 ) = ,
a1 a2
where L1 and L2 are the amounts of labour used in the production of good 1 and 2, respectively,
and a1 > 0 and a2 > 0 are labour input coefficients.
Variables for Foreign are denoted by an asterisk (∗ ). Foreign is identical to Home in almost all
respects, but for the labour supply L∗ and labour input coefficients a∗1 and a∗2 . Specifically, we
assume
a∗1 > a∗2 > a2 > a1 > 0.

a) Derive the relative demand curve for the world economy using the information given
above.

b) Determine the relative supply on the world market for the case in which both countries
fully specialize in the good for which they have a comparative advantage.

c) Use the results from a) and b) to derive the terms of trade for the Home country.

d) Illustrate the world market equilibrium using relative supply and demand curves.

e) Derive conditions for the relative country size such that the terms of trade equal the
relative autarky prices of Home and Foreign, respectively. Interpret your result and
illustrate it using the diagram from d).

f) Show that in a free trade equilibrium it is true that the technologically more advanced
country pays higher wages than the less advanced country.

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