Assume that two countries (Home and Foreign) each produce two goods (corn and wheat) under constant cost production. Home produces 1/2 ton of corn or 1 ton of wheat with a day of labor. Foreign produces 1 ton of corn and 1/2 ton of wheat. Suppose that, after trade occurs, the international price actually becomes 1.5 tons of wheat per ton of corn. Which of the following statements is true?
A) Home will gain from trade but Foreign will not.
B) Foreign will gain from trade but Home will not.
C) Neither home nor Foreign will gain from trade.
D) Both Home and Foreign will gain from trade.

Question

Quizplus · Accepted Answer

With the international price ratio of 1.5 tons of wheat per ton of corn, Home can produce 2 tons of wheat by trading 1 ton of corn, while Foreign can produce 1.5 tons of wheat by trading 1 ton of corn. This means that both countries can benefit from trade by specializing in producing the good in which they have a comparative advantage and trading with each other. Home will export wheat and import corn, while Foreign will export corn and import wheat. By doing so, both countries can consume more of both goods than they would have been able to produce on their own. Therefore, both Home and Foreign will gain from trade.

Assume That Two Countries (Home and Foreign) Each Produce Two