1. For answering this question, you are supposed to study lecture notes as well as the paper entitled “An Empirical Assessment of the Comparative Advantage Gains from Trade: Evidence from Japan” by Bernhofen and Brown. The authors’ goal is to measure a nation’s welfare gains from free trade compared to autarky.

You do not have to read this paper in its entirety. You are required to study only the parts related to the following questions.

2. Consider the Krugman model whose equilibrium could be described by the intersection of PP (pricing rule) and ZZ (zero profit condition) schedules. How would the closed-economy equilibrium change if fixed costs were larger? Use the graph with PP and ZZ schedules, and explain how in the new equilibrium, consumption per capita of a product, supply quantity of a product, price of a product relative to wage, and number of product varieties change. Provide intuition for your results.

3. Again, consider the Krugman model. Suppose two identical countries that were in autarky (initial equilibrium) move to free trade (new equilibrium). Use the graph with PP and ZZ schedules, and explain how in the new equilibrium compared to the initial equilibrium, consumption per capita of a product, supply quantity of a product, price of a product relative to wage, and number of product varieties available to consumers change. Provide intuition for your results.

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