Ricardian model:

Two countries, Home and Foreign, use one factor, labor, to produce two

goods, E and T (electronics and textiles). The unit labor requirements for

the two goods in the two countries are summarized in the following table.

Table 1:

Home Foreign

E 6 3

T 4.5 3

Both countries have a labor force of 200 units. Preferences are the same

in the two countries. Let p denote the relative price of electronics in terms

of textiles.

1. Which country has a comparative advantage in producing good E?

Explain in words why this is the relevant information to determine

the pattern of specialization in an economy where the two countries

are allowed to trade.

2. Derive the relative price p in autarky for each country.

3. Imagine now that the two countries are allowed to trade. Draw the

world relative supply curve. For which range of prices will both coun-

tries specialize? What happens if the price is not in this range?