Problem Set 1 Due Date: Friday, February 5, 9 am All solutions must be accompanied by explanations to receive credit. All solutions must be in MS Word, Excel, and/or Power Point. Include the honor code on the first page of your solution. 1. (40) Trade Data – the goal is to calculate the trade share of GDP for a country over a few decades. To do so, you will need to download some international trade data, organize it, and then create a plot like one from the first lecture. a. First, pick a country (other than the United States). b. Then, go to the International Monetary Fund (IMF), International Financial Statistics (IFS) web site: c. Then, go to “Data Tables” d. Then, under “Data by Country”, click on “GDP and components” e. Near the top left, you will see a drop-down menu for selecting your country and the years (Date). (Also, make sure you have clicked “annual”, and not “quarterly”.) Pick 1985 to the present, or, if the data is not available that far back, the entire time period. (But, try to pick a country with at least 20 years of data). See the picture below: f. Now, go to near the top of the page, and click on the “export” button (see above). It is easiest to download it is as an Excel Workbook. g. Now, open your spreadsheet. The three variables you want are: i. GDP, Nominal, Domestic Currency (Y) ii. Exports of Goods and Services, Nominal, Domestic Currency (X) iii. Imports of Goods and Services, Nominal, Domestic Currency (M) h. You want to calculate the following: 0.5 x (X+M)/Y. In other words, you want the average of exports plus imports, and then divide by GDP. This is the “trade share of GDP” in decimal form. i. Now plot this on a graph. j. How does your country’s path of the trade share of GDP compare to that of the United States over time? 2. (60) Ricardian Trade Model a. (15) Home has 1200 units of labor. It can produce two goods, apples and bananas. The marginal product of labor (MPL) in producing applies is 1/3, and the MPL in producing bananas is ½. i. Graph Home’s production possibility frontier (PPF). Make sure your graph is clearly labeled (axes, the points where the PPF intersects the axes, etc.) ii. What is the opportunity cost of apples in terms of bananas? Show your work. iii. In the absence of trade, what would be the price of apples in terms of bananas? Why? b. (15) Now introduce another country, Foreign, which has 800 units of labor. Foreign’s MPL in producing applies is 1/5, and its MPL in producing bananas is 1. i. Graph Foreign’s PPF ii. In the absence of trade, what would be the price of apples in terms of bananas? Why? iii. Which good does Home have the comparative advantage in? Why? c. (30) Now let’s open up the two economies to free trade. i. (5) Which country will specialize in which good? ii. (5) What is world output of apples and world output of bananas? iii. Suppose that each country likes to spend the same amount on each good. From your microeconomics course, you know the relative price of apples to bananas is all that matters, so we can assume that p_b, the price of bananas = 1, and then p_a, the price of apples, is effectively the relative price of apples. So, in each country, then, p_a x c_a = p_b x c_b = c_b, where c_b is the consumption of bananas and c_a is consumption of apples (and the “x” is the multiplication symbol). Also, remember that total spending must equal total GDP in each economy (price times the output of the good the country produces). iv. (20) This is hard. Based on the above, prove that the world equilibrium price of apples, p_a, = 2. (Hint: show that world demand for apples = world supply of apples (at that price); alternatively, show that the export supply curve in the country with the comparative advantage in apples intersects the import demand curve in the country that does not have the comparative advantage in apples.) 3. (15) Extra credit: “It has been all downhill for the West since China entered global markets; we just can’t compete with hundreds of millions of people willing to work for very low wages”. Discuss