Question

Suppose the domestic supply (QSUS) and demand (QDUS) for bicycles in the United States are given by the following set of equations:

QSUS = 2P

QDUS = 200 – 2P

Demand (QD) and supply (QS) in the rest of the world are given by the equations:

QS = P

QD =160 – P

Quantities are measured in thousands and price in U.S. dollars.

After the opening of free trade with the rest of the world, if the world price of the bicycles settles at $60, the United States will:

answer; import 40,000 bicycles.

Answer 1

Solution:

First we find the domestic equilibrium. Equilibrium occurs where quantity demanded equals the quantity supplied, thus domestic equilibrium occurs where QSUS = QDUS

2P = 200 - 2P

4P = 200

P = 200/4 = $50

Notice that domestic equilibrium price of $50 per bicycle is lower than the world price of $60 per bicycle. This means that US sales bicycle at a lower price, or cheaply relative to the rest of the world. Hence, one shall expect other nations to demand bicycles from US, or in other words, US is expected to be an exporter of bicycles.

Further verifying this fact: At world price of $60 per bicycle, domestic production/supply of bicycles = QSUS = 2*60 = 120 thousand bicycles.

While domestic demand for bicycles at this price = QDUS = 200 - 2*60 = 80 thousand bicycles

Clearly, domestic demand for bicycles is less than the domestic supply of bicycles at the world price, indicating that any surplus quantity of bicycles is produced to serve rest of the world.

Exports = Excess supply = domestic supply - domestic demand

Exports = 120 thousand - 80 thousand = 40 thousand bicycles.

Thus, United States will export 40,000 bicycles.(your answer is partially incorrect).