Download 1 - Economics

Name:___ Solution Key___________
SSI 2006, 160A
Final
Professor Farshid Mojaver
Part I: Multiple Choice Questions [20 questions, 20 points]
1. The deadweight loss of a tariff
(a) is a social loss because it promotes inefficient use of resources.
(b) is a social loss because it reduces the revenue of the government.
(c) is not a social loss because it merely redistributes revenue from one sector to another.
(d) is not a social loss because it is paid for by rich corporations.
(e) None of the above.
2. An important difference between tariffs and quotas is that tariffs
(a) raise the price of the good
(b) generate tax revenue for the government
(c) stimulate international trade
(d) help domestic producers
(e) None of the above
3. The existence of marginal social benefits which are not marginal benefits for the
industry producing the import substitutes
(a) is an argument supporting free trade and non-governmental involvement.
(b) is an argument supporting the use of an optimum tariff.
(c) is an argument supporting the use of market failures as a trade-policy strategy.
(d) is an argument rejecting free trade and supporting governmental involvement.
(e) None of the above.
4. When one applies the Heckscher-Ohlin model of trade to the issue of trade-related
income redistributions, one must conclude that North South trade, such as U.S.-Mexico
trade,
(a) Must help low skill workers on both sides of the border.
(b) Is likely to hurt high-skilled workers in the U.S.
(c) Is likely to hurt low-skilled workers in the U.S.
(d) Is likely to hurt low-skilled workers in Mexico.
(e) None of the above.
5. When one applies the Heckscher-Ohlin model of trade to the issue of trade-related
income redistributions, one must conclude that North South trade, such as U.S.-Mexico
trade,
(a) Must help low skill workers on both sides of the border.
(b) Is likely to hurt high-skilled workers in the U.S.
(c) Is likely to involve higher overall national economic gains that will be greater
than any harm done to low-skilled workers in the U.S.
(d) Is likely to hurt low-skilled workers in Mexico.
(e) None of the above.
6. The reason protectionism remains strong in the United States is that
(a) economists can produce any result they are hired to produce.
(b) economists cannot persuade the general public that free trade is beneficial.
(c) economists do not really understand how the real world works.
(d) the losses associated with protectionism are diffuse, making lobbying by the
public impractical.
(e) None of the above.
7. General equilibrium considerations lead to the realization that import-substituting
policies have an effect of
(a) Discouraging exports.
(b) Encouraging exports.
(c) Encouraging an efficient use of a country’s resources.
(d) Generating large tariff revenues for the government
(e) None of the above.
8. Historically those few developing countries which have succeeded in significantly
raising their per-capita income levels
(a) Did not accomplish this with import-substituting industrialization.
(b) Did accomplish this with import-substituting industrialization.
(c) Tended to provide heavy protection to domestic industrial sectors.
(d) Favored industrial to agricultural or service sectors.
(e) None of the above.
9. The infant industry argument is that
(a) Comparative advantage is irrelevant to economic growth
(b) Developing countries have a comparative advantage in agricultural goods.
(c) Developing countries have a comparative advantage in manufacturing.
(d) Developing countries have a potential comparative advantage in manufacturing.
(e) None of the above.
10. The infant industry argument calls for active government involvement
(a) Only if the government forecasts are accurate.
(b) Only if some market failure can be identified.
(c) Only if the industry is not one already dominated by industrial countries.
(d) Only if the industry has a high value added.
(e) None of the above.
11. The existence of positive externalities due to the impossibility of full appropriability
(a) Supports the conclusions of the Heckscher-Ohlin model.
(b) Rejects the usefulness of government protectionism.
(c) Supports the concept that the government should support only high tech industries.
(d) Provides support for government protectionism.
(e) None of the above.
12. If firms in an industry are generating knowledge that other firms can use without
paying for it, this industry is characterized by
(a) Social costs that exceed private costs.
(b) Social benefits that exceed private benefits.
(c) Social costs that exceed social benefits.
(d) Private benefits that exceed social benefits.
(e) None of the above.
13. It is argued that high-tech industries typically generate new technologies but cannot
fully appropriate the commercial benefits associated with their inventions or discoveries.
If this is true then in order to maximize a country’s real income, the government should
(a) Tax the high-tech firms.
(b) Subsidize the high-tech firms.
(c) Protect the high-tech firms.
(d) Both (b) and (c)
(e) None of the above.
14. The domestic market failure argument is a particular case of the theory of
(a) the optimum, or first-best.
(b) the second best.
(c) the third best.
(d) the sufficing principle.
(e) None of the above.
15. The simple model of competition among political parties long used by political
scientists tends to lead to the practical solution of selecting the
(a) optimal tariff.
(b) prohibitive tariff.
(c) zero (free-trade) tariff.
(d) the tariff rate favored by the median voter.
(e) None of the above.
16. External economies of scale arise when the cost per unit
(a) rises as the industry grows larger.
(b) falls as the industry grows larger rises as the average firm grows larger.
(c) falls as the average firm grows larger.
(d) remains constant.
(e) None of the above.
17. Intra-industry trade will tend to dominate trade flows when which of the following
exists?
(a) Large differences between relative country factor availabilities
(b) Small differences between relative country factor availabilities
(c) Homogeneous products that cannot be differentiated
(d) Constant cost industries
(e) None of the above.
18. If the world attained a perfect Heckscher-Ohlin model equilibrium with trade, then
(a) workers in the labor abundant country would migrate to the capital abundant country.
(b) workers in the labor abundant country would wish to migrate to the capital abundant
country.
(c) workers in the labor abundant country would have no desire to migrate to the
capital abundant country.
(d) workers in the capital abundant country would wish to migrate to the labor abundant
country.
(e) workers in the capital abundant country would migrate to the labor abundant country.
19. Multinational corporations may provide benefits to their home countries for the
following reasons except which one?
(a) Secure raw materials for the source country
(b) Allow for exports of products, which involve company-specific trade secrets
(c) Allow domestic firms to secure timely deliveries of commodities or products, which
do not enjoy a stable or deep market internationally
(d) Shift home country technology overseas via licensing
(e) None of the above.
20. A problem encountered when implementing an “infant industry” tariff is that
(a) domestic consumers will purchase the foreign good regardless of the tariff.
(b) the industry may never “mature.”
(c) most industries require tariff protection when they are mature.
(d) the tariff may hurt the industry’s domestic sales.
(e) None of the above.
Part II
Problem 1: Trade Blocks [6 points]
Could a free trade agreement with Mexico be potentially harmful for US welfare? What
makes it more likely for the FTA to be a success? In answering this question please make
use of the concept of Trade Creation and Trade Diversion.
Problem 2: The Ricardian Model of Trade [12 points total, 2 pts each ]
1) Malaysia has 200 units of labor, while there are 400 units of labor in Indonesia. When they
produce, the countries have the following unit labor requirements.
Shirts
Cameras
1-1)
Malaysia
20
10
Indonesia
20
40
Which country has absolute advantage in shirt production and why?
Malaysia has absolute advantage in Camera because her labor productivity in
that sector is higher than that of Indonesia. No country has absolute advantage
in the production of shirts.
1-2) In absence of trade, what is the opportunity cost of Shirts (in terms of Cameras) in
Indonesia and Malaysia?
Malaysia
Indonesia
OC of Shirts (in terms of Cameras) aLS/aLC
bLS/bLC
20/10 = 2
20/40 = 0.5
1-3) For which product does Indonesia have comparative advantage?
Indonesia has Comparative Advantage in Shirt production because her
opportunity cost of Shirt is lower than that in Malaysia
1-4) Draw a graph showing production possibility frontier of Malaysia and Indonesia. Have
Shirt production of the horizontal axis and Camera on the Vertical axis.
QC
QC
Malaysia
LM /aLC =
200/10= 20
aLS/aLC = 2
10
10
QS
Indonesia
bLS/bLC = 0.5
LI /bLS = 400/20= 20
QS
1-5) What is the relative price of Shirts in each country before trade?
Autarky PS/PC in Malaysia = 2
Autarky PS/PC in Indonesia = 0.5
1-6) If world price of shirts to cameras were 1 what would be the world production of
Camera and Shirts? Which country would produce each?
Indonesia produces 400/20 = 20 units of shirts and exports its excess supply.
Malaysia produces 200/10 = 20 and exports its excess supply.
Problem 3 (Trade in Perfectly Competitive Markets) [14 points, a, b , c 2 pts each, d 8 pts]
There is a three panel graph below. In the left hand panel are the demand and supply
curves in the Home country for some good Q. In the right hand panel are the demand and
supply curves for the Foreign country for the same good. Both Home and Foreign are
"large" countries.
(a) In the middle panel, draw the import demand (MD) and export supply (XS*) curves
for Home and Foreign, respectively. Be sure to label the curves.
(b) Label the equilibrium world price in free trade as PoW, and indicate quantities
consumed (QD) and produced (QS) in each country, as well as the quantity of good Q
traded (label this Mo).
(c) Suppose that Foreign imposes a specific export tax of $t. Show the new equilibrium
price in Home and in Foreign, plus the new level of good Q traded (label this M1). Also
indicate the new quantities produced and consumed in each country.
(d) Label the areas in the left hand panel. Relative to free trade,
i.
What is change in Home consumer surplus? (write down the area below)
 CS = -[ a + b + c + d ]
ii.

What change in Home producer surplus?

iii.

 PS = a
What is the change in the Home government’s revenue?
 Gov R = 0
iv.
What is the total change in Home’s welfare?

 W = -[ b + c + d ]
Problem 4: Strategic Trade Policy [6 points: 2 points per part.]
Consider the following payoff matrix for Airbus and Boeing.
a) Which company will enter the market?
Non of them if both firms are risk avers.
b) Suppose both governments offer their respective company a subsidy of
$4(million). Which company will enter the market?
Still non of them.
c) Suppose both governments offer their respective company a $10 million subsidy.
Which company will enter the market now?
Both firms will produce
Problem 5: Monopolistic Competition [10 points]
Consider the long-run trade equilibrium in the monopolistic competition model as illustrated
below. Consider a situation where the foreign and domestic demand for a particular good
decrease. For instance, suppose that this is the market for cars and higher gasoline prices result in
lower demand.
a) In the Figure below and show what happens when this change in demand occurs.
Specifically, show which curve(s) shift.
P
D0/Nc
C
dc
mrd
AC
MC
Q
b) If the old equilibrium is at point C, describe where the new long run equilibrium occurs, and
what has happened to the number of firms and the price they charge.
Problem 6: Political Economy using HO model [10 points]
You are employed as an economic advisor of a presidential candidate. Some interest
groups demand a substantial increase in the import tariffs but consumer of course like a
reduction in such rates.
a) What would your advice regarding import tariff rates if you were an economic
and political advisor Sweden and why?
b) How would your advice change if you were employed by a major party in India
given that income distribution is less equal in India and that India imports capital
intensive goods?
c) How would your advice change if you were employed by the government of
China, where income distribution is more equal but most of the enterprises are
state-owned?
6- A question on HO Model and Income Distribution [22 points]
Consider an increase in import tariff rates in a small capital abundant country. Analyze
the effects of this policy on the income distribution and the factor intensity of that
country in the following table. In answering the questions in the table use using the
following notation:
+
0
A
the variable increases in this step
the variable decreases in this state
the variable does not change
the variable change is ambiguous (i.e. it may rise, it may fall)
Short Impact
Medium Run
Long Run
Domestic IMPort competing -EXP Price ratio
+
+
+
Nominal wage in EXP sector: WEXP
0
+
+
Nominal rent in IMP competing sector: RIMP
+
+
-
Nominal rent in EXP sector: REXP
0
-
-
Real wage in IMP competing sector: WIMP
+
A
+
capital-labor ratio in IMP competing sector
0
+
+
nnnnnnnn
-
-
-
Nnnnnnn
-
Welfare of the median voter welfare assuming
large income inequality
nnnnnnnnn
Nnnnnnn
+
Welfare of the Median voter welfare assuming
no income inequality
nnnnnnn
-
-
National Welfare
Consumer Welfare