Assume two countries, Nation 1 and 2, both producing two products X and Y. Both countries are endowed with the same amount of labour resource but the labour resource is not identical. Both countries also adopted the same technology and hence have the same production possibility frontiers. However, they have different tastes. Nation 1 has a stronger preference for Y relative to X, while Nation 2 has a stronger preference for X relative to Y.
(a) Draw the autarky equilibrium-relative commodity price in each nation and explain the pre-trade equilibrium position of each nation.
(b) Explain and show the process of specialisation in production in the diagram.
(c) Demonstrate how mutually beneficial trade can occur and show the gains from trade in your diagram.