Suppose that another large country offers to trade with us at price Pw. Our country will
trade to reach the highest indifference curve possible where the indifference curve is
TANGENT to the new line - there is only one of these points.
How do we trade?
We export ED hockey sticks and import D1C1 tuques
Trade triangle is ED,C Legs of triangle are exports and imports and the hypothenuse is
the price ratio
Exercise: draw flatter price line
Algebraic catch up
Maximize utilitiy U(eh,ct) Subject to a constrained (budget line)
- Get to the highest indifference curve possible
- Budget line: value of goods consumed = value of endowment
- ( Ph)Ch + (Pt)Ct = (Ph)eh + (Pt)et = I
- Ptct - Ptet = pheh-phch
- pt(ct-et) = ph(eh-ch)
- ct-et = ph/pt (