Consider a Ricardian framework with two countries, A and B, and two products, G1 and G2. The following table shows the marginal product of labour in G1 and G2 in both countries. G1 G2Country A 3 8Country B 7 5Which one of the following independent scenarios is not possible at the trade equilibrium? Group of answer choicesCompared to autarky, country A workers receive the same real wage in G2.Relative price of G1 is 5/7.Compared to autarky, country B workers receive higher real wage in G1.Relative price of G1 is 8/3.
Question
Consider a Ricardian framework with two countries, A and B, and two products, G1 and G2. The following table shows the marginal product of labour in G1 and G2 in both countries. G1 G2Country A 3 8Country B 7 5Which one of the following independent scenarios is not possible at the trade equilibrium? Group of answer choicesCompared to autarky, country A workers receive the same real wage in G2.Relative price of G1 is 5/7.Compared to autarky, country B workers receive higher real wage in G1.Relative price of G1 is 8/3.
Solution
In a Ricardian framework, countries will specialize in producing and exporting the good in which they have a comparative advantage, i.e., the good they can produce at a lower opportunity cost. The opportunity cost is calculated as the amount of one good that must be given up to produce one unit of another good.
In this case, the opportunity cost of producing G1 in Country A is 3/8 units of G2, and in Country B it is 7/5 units of G2. Therefore, Country A has a comparative advantage in producing G1, and Country B has a comparative advantage in producing G2.
Let's analyze each scenario:
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Compared to autarky, country A workers receive the same real wage in G2: This is possible. In autarky, the real wage in terms of G2 in Country A is 8 (the marginal product of labor in G2). After opening up to trade, Country A specializes in producing G1, but it's possible that the increase in the relative price of G1 is such that the real wage in terms of G2 remains the same.
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Relative price of G1 is 5/7: This is not possible. The relative price of G1 in terms of G2 should be between the opportunity costs in the two countries, i.e., between 3/8 and 7/5. The value 5/7 is not within this range.
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Compared to autarky, country B workers receive higher real wage in G1: This is possible. In autarky, the real wage in terms of G1 in Country B is 7 (the marginal product of labor in G1). After opening up to trade, Country B specializes in producing G2, and the increase in the relative price of G2 could lead to a higher real wage in terms of G1.
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Relative price of G1 is 8/3: This is possible. The relative price of G1 in terms of G2 should be between the opportunity costs in the two countries, i.e., between 3/8 and 7/5. The value 8/3 is within this range.
Therefore, the scenario "Relative price of G1 is 5/7" is not possible at the trade equilibrium.
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