Question 2.

Homework #2 International Trade

1. Consider the numerical examples of exercise 1 and 2 on page 52 in Krugman and Obstfeld (8th Edition).

Draw the production possibility frontier for each country.

Which country has a comparative advantage in apples, which one in bananas?

Which country has an absolute advantage?

Indicate the range of the international prices within which there will be gains from trade for both countries.

Now imagine that Home's technology is different. It turns out that one unit of Home labor can produce 0.2 apples or 1 banana. What would the pattern of production/trade be in this case? Explain the reason why the trade pattern is the way it is.

2.Take the numerical example we used in class to discuss the Ricardo model.

Draw the world production possibility frontier. (Hint: To do so, ask yourself what world output would be for all possible international prices (Pc/Pw)t). Now assume that both countries consume wine and clothing in equal proportions (i.e., their utility function is of the form U(c,w) = min {c,w}. Wine (w) and clothing (c ) are perfect complements) Now indicate on the graph the exact point on the world production possibility frontier at which the world consumes. Compare that point to the world consumption point before trade and before specialization.

As you notice, there are indeed gains from trade.

The question left is whether a world with free trade is the best of all possible worlds. Convince yourself that it is actually not always the best case. Allow for international mobility of labor. In other words, workers are free to decide where they want to work (at home or abroad). Show us how the production possibility frontier will look like in this case. Convince yourself that indeed, under this scenario, the world is better off than in the case of free trade. Now when you consider the international division of production (i.e., where goods will be produced) with internationally mobile labor, would you say that it is in line with the principle of comparative advantage? Discuss

You should realize while doing this exercise how essential the assumption of the international immobility of labor is for international trade and the theory of comparative advantage.

3.Discuss problems 6 and 9 in Krugman and Obstfeld, p. 52.

4.Your country imports high tech products and exports agricultural products.

Suppose you had any control over future technological developments (You have none, but anyway), would you prefer scenario (a), (b) or (c) and why? (Where necessary, illustrate with a graph using the Ricarto analysis of comparative advantage.)

a. There is a technological revolution abroad in the high tech industry. In other words, productivity increases significantly in the technology sector.

b. There is a productivity increase abroad in the agricultural sector.

c. No technological revolution at all abroad.

5.Answer the problem 7 in Feenstra and Taylor, p. 57..

Question 3.

28. If demand decreases but supply increases at the same time, we can conclude that

Equilibrium quantity will decrease, but equilibrium quantity is indeterminate.

We require more information to determine the movement in market price and market quantity equilibriums.

Equilibrium price will rise, but equilibrium quantity is indeterminate.

Equilibrium quantity will rise, but equilibrium price is indeterminate.

Equilibrium price will decrease, but equilibrium quantity is indeterminate.

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Question 292.5 pts

29. Medical research from South Africa indicates that vitamin A may be useful in treating measles. If the research can be substantiated and communicated to the markets,

The demand for vitamin A will increase, causing equilibrium price and quantity to increase.

The supply of vitamin A will increase, causing equilibrium price to rise and quantity to fall.

The supply of vitamin A will increase, causing equilibrium price to fall and quantity to increase.

The supply of vitamin A will increase, causing equilibrium price and quantity to increase.

The demand for vitamin A will increase, causing equilibrium price to rise and quantity to fall.

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Question 302.5 pts

30. When quantity demanded of a good is less than the quantity supplied at the prevailing market price,

The price of the good tends to fall.

The market is in equilibrium.

The demand curve shifts rightward until the surplus is eliminated.

DThe price of the good tends to rise.

The supply curve shifts leftward until the shortage is eliminated.

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Question 312.5 pts

31. An improvement in technology would shift

The demand curve rightward.

The demand curve leftward.

The supply curve leftward.

The supply curve rightward.

Neither the supply nor the demand curve; instead, there is movement along both of them.

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Question 322.5 pts

32. The basic reason that supply curves slope upward is that

Greater output can only result from improved technology.

Production of output is characterized by increaseing marginal costs.

Demand curves slope downward.

Profits decline as product prices rise.

Price and quantity supplied are inversely related.

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Question 332.5 pts

33. If a certain type of clothing becomes more fashionable, we would expect that its price, ceteris paribus

price and quantity will both increase.

will decrease and quantity will increase.

and quantity will both decrease.

will increase and quantity will decrease.

will decrease and quantity will remain constant.

Question

4. Increased government spending for investments such as highways or harbours financed by 1. In Year 1. the actual budget deficit was $200 billion and the cyclically adjusted deficit was increasing the public debt would most likely; $150 billion. In Year 2. the actual budget deficit was $225 billion and the cyclically adjusted increase the amount of public capital stock in the future. deficit was $175 billion. It can be concluded that fiscal policy from Year I to Year 2 was: increase the amount of private capital stock in the future. proportional. crowd out future public investment. contractionary. reduce the economy's future productive capacity. expansionary inflationary. 5. An expansionary fiscal policy in Canada might unintentionally cause demand-pull inflation if: 2. Refer to the diagram below wherein T is tax revenues and G is government expenditures. All the policy produces severe crowding out. figures are in billions. In this economy: the dollar unexpectedly depreciates while the expansionary policy is in place. T.G ($) our trading partners experience recession during the time of the fiscal policy action. 400 300 the dollar unexpectedly appreciates while the expansionary policy is in place. 200 100 6. Refer to the below diagram where T is tax revenues and ( is government expenditures. All figures are in billions of dollars. If the full-employment and actual GDP are each $400 billion. $100 200 300 400 500 600 700 800 GDP government can balance its budget by: government spending varies directly with GDP, but tax revenues are independent of GDP. tax revenues vary directly with GDP, but government spending is independent of GDP. tax revenues and government spending both vary directly with GDP. tax revenues and government spending both vary inversely with GDP. 3. Crowding out is a decrease in private investment caused by: a full-employment budget deficit. increasing T by $40 billion. an expansionary fiscal policy. increasing T by $10 billion and reducing G by $20 billion. the political business cycle. reducing I by $20 billion. a contractionary fiscal policy reducing ( by $20 billion.Developed by Steven Kupina, Professor of Economics, Conestoga College. Unauthorized use or uploading to external sites is strictly prohibited. UNIT 5 REVIEW QUIZ WITH ANSWERS 1. An increase in current disposable income leads to a. an increase in consumption only. b. an increase in saving only. c. an increase in both consumption and saving d. a decrease in saving but an increase in consumption. e. an increase in saving but a decrease in consumption. 2. Which of the following describes a possible effect of a fall in the real interest rate? a. The consumption function shifts downward. b. The saving function shifts upward. c. Both the consumption and saving functions shift upward. d. Both the consumption and saving functions shift downward. e. The consumption function shifts upward, and the saving function shifts downward 3. The component of aggregate expenditure which does NOT vary with the level of real GDP is known as a, autonomous expenditure b. planned expenditure Induced expenditure3. The balance of payments of a nation is an accounting statement of the international economic transactions, over some period of time (usually a year), of the residents (individuals, business firms, government units) of the country. Entries into the balance of payments are either credits (exports) or debits (imports). (a) In terms of the balance of payments, what does it mean to say that a country is experiencing a "capital outflow?" Specifically, what is "moving" between countries when a country experiences a capital outflow? What is being credited and what is being debited? Carefully explain. (b) Explain what is meant by the current account, the capital account, and the official settlements account. In what sense does the balance of payments always balance? In what sense does a deficit in the "basic balance" present a problem for a country that operates under a system of fixed exchange rates (as under a gold standard, for example)? Under what conditions would a "basic balance" deficit (sometimes referred to as a "balance of payments" deficit) not present a problem? Carefully explain