Problem 1 Suppose the market for shoes is monopolistically competitive and shoes is a differentiated product. Two identical countries, Home and Foreign, trade shoes with each other and all Home and Foreign firms have constant marginal costs equal to MC and decreasing average costs AC. The market is cur- rently in the long-run free-trade equilibrium as in Figure 6.14 in class notes. Suppose firms in both countries switch to a new, more efficient, production technology and average costs of production fall from AC to AC2, while MC remains the same. a. Starting with Figure 6.14, show the shift in the AC curve and illustrate the short-run effect of the change. How does this technological improvement affect d, D, and mr curves in the short run? Show on your diagram the new short-run equilibrium with trade. What is the short-run effect of technolog- ical improvement on equilibrium prices and output per firm? b. How does the change in technology affect firms' incentive to enter/exit the market? c. How does the adoption of the more efficient technology affect the demand curves D and d in the long run? d. Using a diagram similar to 6.14, show the new long-run equilibrium. e. Explain what will happen to the number of firms and prices they charge? What are the two long-run effects of new technology on Home country welfare?