SHOW CALCULATION AND GIVE POSSIBLE EXPLANATION WITH EXAMPLES

Origins of Comparative Advantage

The theory of comparative advantage has been attributed to the English political economistDavid Ricardo.Comparative advantage is discussed in Ricardo's bookOn the Principles of Political Economy and Taxation, published in 1817, although it has been suggested that Ricardo's mentor, James Mill, likely originated the analysis and slipped it into Ricardo's book on the sly.123

Comparative advantage, as we have shown above, famously showed how England and Portugal both benefit by specializing and trading according to their comparative advantages. In this case, Portugal was able to make wine at a low cost, while England was able to cheaply manufacture cloth. Ricardo predicted that each country would eventually recognize these facts and stop attempting to make the product that was more costly to generate.3

A more contemporary example of comparative advantage is China's comparative advantage over the United States in the form of cheap labor. Chinese workers produce simple consumer goods at a much lower opportunity cost.4The comparative advantage for the U.S. is in specialized, capital-intensive labor. American workers produce sophisticated goods or investment opportunities at lower opportunity costs. Specializing and trading along these lines benefit each country.

The theory of comparative advantage helps to explain whyprotectionismhas been traditionally unsuccessful. If a country removes itself from an international trade agreement, or if a government imposes tariffs, it may produce an immediate local benefit in the form of new jobs. However, this is rarely a long-term solution to a trade problem. Eventually, that country will grow to be at a disadvantage relative to its neighbors: countries that were already better able to produce these items at a lower opportunity cost.

Criticisms of Comparative Advantage

Why doesn't the world have open trading between countries? When there is free trade, why do some countries remain poor at the expense of others? There are many reasons, but the most influential is something that economists callrent seeking. Rent seeking occurs when one group organizes andlobbiesthe government to protect its interests.

Say, for example, the producers of American shoes understand and agree with the free-trade argument but also know that cheaper foreign shoes would negatively impact their narrow interests. Even if laborers would be most productive by switching from making shoes to making computers, nobody in the shoe industry wants to lose their job or seeprofitsdecrease in the short run.

This desire could lead the shoemakers to lobby for specialtax breaksfor their products or extra duties(or even outright bans) on foreign footwear. Appeals to save American jobs and preserve a time-honored American craft aboundeven though, in the long run, American laborers would be relatively less productive and American consumers relatively poorer as a result of such protectionist tactics.

Other Possible Benefits of Trading Globally

International trade not only results in increased efficiency, but it also allows countries to participate in a global economy, encouraging the opportunity forforeign direct investment(FDI). In theory, economies can thus grow more efficiently and become competitive economic participants more easily.

For the receiving government, FDI is a means by whichforeign currency and expertise can enter the country. It raises employment levels and, theoretically, leads to a growth in thegross domestic product(GDP). For the investor, FDI offers company expansion and growth, which means higher revenues.

Free Trade vs. Protectionism

As with all theories, there are opposing views. International trade has two contrasting views regarding the level of control placed on trade between countries.

Free trade

Free trade is the simpler of the two theories. This approach is also sometimes referred to aslaissez-faireeconomics. With a laissez-faire approach, there are no restrictions on trade. The main idea is thatsupply and demandfactors, operating on a global scale, will ensure that production happens efficiently. Therefore, nothing must be done to protect or promote trade and growth because market forces will automatically.

Protectionismholds that regulation of international trade is important to ensure that markets function properly.Advocates of this theory believe that market inefficiencies may hamper the benefits of international trade, and they aim to guide the market accordingly. Protectionism exists in many different forms, but the most common aretariffs,subsidies, andquotas. These strategies attempt to correct any inefficiency in the international market.

As international trade opens up the opportunity for specialization, and thus more efficient use of resources, it has the potential to maximize a country's capacity to produce and acquire goods. Opponents of global free trade have argued, however, that international trade still allows for inefficiencies that leave developing nations compromised. What is certain is that the global economy is in a state of continual change. Thus, as it develops, so too must its participants.Origins of Comparative Advantage

The theory of comparative advantage has been attributed to the English political economistDavid Ricardo.Comparative advantage is discussed in Ricardo's bookOn the Principles of Political Economy and Taxation, published in 1817, although it has been suggested that Ricardo's mentor, James Mill, likely originated the analysis and slipped it into Ricardo's book on the sly.123

Comparative advantage, as we have shown above, famously showed how England and Portugal both benefit by specializing and trading according to their comparative advantages. In this case, Portugal was able to make wine at a low cost, while England was able to cheaply manufacture cloth. Ricardo predicted that each country would eventually recognize these facts and stop attempting to make the product that was more costly to generate.3

A more contemporary example of comparative advantage is China's comparative advantage over the United States in the form of cheap labor. Chinese workers produce simple consumer goods at a much lower opportunity cost.4The comparative advantage for the U.S. is in specialized, capital-intensive labor. American workers produce sophisticated goods or investment opportunities at lower opportunity costs. Specializing and trading along these lines benefit each country.

The theory of comparative advantage helps to explain whyprotectionismhas been traditionally unsuccessful. If a country removes itself from an international trade agreement, or if a government imposes tariffs, it may produce an immediate local benefit in the form of new jobs. However, this is rarely a long-term solution to a trade problem. Eventually, that country will grow to be at a disadvantage relative to its neighbors: countries that were already better able to produce these items at a lower opportunity cost.

Criticisms of Comparative Advantage

Why doesn't the world have open trading between countries? When there is free trade, why do some countries remain poor at the expense of others? There are many reasons, but the most influential is something that economists callrent seeking. Rent seeking occurs when one group organizes andlobbiesthe government to protect its interests.

Say, for example, the producers of American shoes understand and agree with the free-trade argument but also know that cheaper foreign shoes would negatively impact their narrow interests. Even if laborers would be most productive by switching from making shoes to making computers, nobody in the shoe industry wants to lose their job or seeprofitsdecrease in the short run.

This desire could lead the shoemakers to lobby for specialtax breaksfor their products or extra duties(or even outright bans) on foreign footwear. Appeals to save American jobs and preserve a time-honored American craft aboundeven though, in the long run, American laborers would be relatively less productive and American consumers relatively poorer as a result of such protectionist tactics.

Other Possible Benefits of Trading Globally

International trade not only results in increased efficiency, but it also allows countries to participate in a global economy, encouraging the opportunity forforeign direct investment(FDI). In theory, economies can thus grow more efficiently and become competitive economic participants more easily.

For the receiving government, FDI is a means by whichforeign currency and expertise can enter the country. It raises employment levels and, theoretically, leads to a growth in thegross domestic product(GDP). For the investor, FDI offers company expansion and growth, which means higher revenues.

Free Trade vs. Protectionism

As with all theories, there are opposing views. International trade has two contrasting views regarding the level of control placed on trade between countries.

Free trade

Free trade is the simpler of the two theories. This approach is also sometimes referred to aslaissez-faireeconomics. With a laissez-faire approach, there are no restrictions on trade. The main idea is thatsupply and demandfactors, operating on a global scale, will ensure that production happens efficiently. Therefore, nothing must be done to protect or promote trade and growth because market forces automatically.

Protectionismholds that regulation of international trade is important to ensure that markets function properly.Advocates of this theory believe that market inefficiencies may hamper the benefits of international trade, and they aim to guide the market accordingly. Protectionism exists in many different forms, but the most common aretariffs,subsidies, andquotas. These strategies attempt to correct any inefficiency in the international market.

As international trade opens up the opportunity for specialization, and thus more efficient use of resources, it has the potential to maximize a country's capacity to produce and acquire goods. Opponents of global free trade have argued, however, that international trade still allows for inefficiencies that leave developing nations compromised. What is certain is that the global economy is in a state of continual change. Thus, as it develops, so too must its participants.Question 23.

1. GDP can be defined in different ways by the economist definition ,Which kind pf definition will you give is correct?

2. In the goods market model with a marginal propensity to consume of .75, a decrease in taxes (T) by 100 billion causes an increase in output by:

3. ) Consider a padlocked low-cost where T=G, I>0. Then, sequestered saving is:

4. The money multiplier _______________ describe by the economist

5. The growth rate of nominal GDP is always greater than the growth rate of real GDP because changes in nominal GDP reflect both price and quantity changes.

6. A mix of a fiscal contraction and a monetary expansion increases investment unambiguously. Is it describe correctly or wrongly, justify your answer.

7. Assume that the economy is described by the following facts. Money Demand: M Y( i) d = $ 0.1 Nominal Income: $Y = 20000 The central bank requires a reserve ratio of = 20%. People keep 6 1 of their money demand as currency and the rest as deposits. The supply of central bank money is = 500 s H . 1) Calculate the money multiplier, d CU , d D , d R , d H (the demand for central bank money) and the equilibrium i. (12 points)

8. Calculate the money multiplier, d CU , d D , d R , d H (the demand for central bank money) and the equilibrium i.

9. Now assume that the central bank announces an increase of i by 1.5% from the level you calculated in part 1). Keep nominal income and the other parameters ( ) c, constant. What does the central bank have to do in order to obtain what was announced? Calculate and explain. (6 points)

10. se now that after the monetary policy operation the people decide to hold a smaller part of their income as currency: 16 1 c = . Keeping $Y at 20000, what happens to equilibrium i? Explain. (6 points)

11. Imagine that the central bank anticipates the behavior described in part 3), that is the decrease in c, and takes it into account when increasing i by 1.5% (as described in part 2). How does your answer to part 2) change? Calculate and explain. (6 points)