Name FIRST MIDTERM EXAM Economics 452 International Trade Theory and Policy Spring 2011 WORLD TRADE 1. What is true for the United States with most of its largest trading partners? a. Trade balance is positive so we have a trade surplus b. Trade balance negative so we have a trade deficit c. Value of our imports exceeds the value of our exports d. Value of our exports equals the value of our imports e. b and c 2. Total value of US imports from and exports to Canada (trade volume) has been around in 2005-2010. a. $40-55 million b. $400-550 million c. $40-55 billion d. $400-550 billion e. $40-55 trillion 3. How have Texas exports changed in the last few years? a. Shrank 2007-8, shrank 2008-9 & grew 2009-10 b. Shrank 2007-8, grew 2008-9 & grew 2009-10 c. Grew 2007-8, shrank 2008-9 & grew 2009-10 d. Grew 2007-8, grew 2008-9 & grew 2009-10 e. Grew 2007-8, grew 2008-9 & shrank 2009-10 4. If Texas were a nation, it would rank in the exporters. a. Top 5 b. Top 10 c. Top 20 d. Top 100 e. Top 200-1-
5. The gravity model claims that the value of trade between two countries with the GDP of each country and with the distance between them. a. increases, increases b. increases, decreases c. increases, stays the same d. decreases, increases e. decreases, decreases 6. That trade with British Columbia as a percentage GDP is 1.9 for Ontario versus 0.2 for Ohio suggests that the a. border seems to cause a substantial reduction in trade b. Canadian-US Free trade agreement promoted trade c. majority of Canadians live near the US border d. two countries share a common language and heritage e. c and d 7. That trade as a percentage of GDP is currently around 25-30% in the United States versus 40-45% in 1870-1910 in the United Kingdom suggests that for the United States today international trade is a. more important than for the UK before 1910 b. as important as for the UK before 1910 c. less important than for the UK before 1910 d. as important as for Denmark today e. more important than for the UK or Denmark today 8. Improvements in modern transportation and communication have caused distance to a. matter more for trade volumes than ever before b. matter less and less for trade volumes c. become irrelevant to trade volumes d. b and c e. a and c -2-
RICARDIAN MODEL 9-12. Laptops and paper towels are produced with labor. Suppose the relative price of paper towels to laptops under free trade is less than the opportunity cost of paper towels in terms of laptops in Taiwan, whose only trading partner is the United States. 9. In autarky (before trade) in Taiwan, the wage earned when making laptops is the wage earned when making paper towels. a. Higher than b. Lower than c. The same as d. Higher than or the same as e. Lower than or the same as 10. The United States imports a. Only laptops b. Only paper towels c. Both laptops and paper towels d. Neither laptops paper towels e. Cannot tell from the information provided 11. Does the United States gain from trade? a. Yes for sure b. No for sure c. Possibly but only if produces just laptops d. Possibly but only if produces just paper towels e. Possibly but only if produces both paper towels and laptops 12. Under free trade, the wage in the United States will exceed the wage in Taiwan if the United States has a. Comparative advantage in paper towels b. Comparative advantage in laptops c. Comparative advantage in both goods d. Absolute advantage in both goods e. Absolute advantage in paper towels -3-
13-16 China and the United States engage in free trade in hammocks and bowls, which are produced with labor. Suppose that China produces only hammocks under free trade. 13. What does the United States produce under free trade? a. Only bowls b. Only hammocks c. Definitely bowls and maybe hammocks d. Definitely hammocks and maybe bowls e. Definitely both bowls and hammocks 14. The opportunity cost of bowls in terms of hammocks in China must be the opportunity cost of bowls in terms of hammocks in the United States. a. More than b. Equal to c. Less than d. Less than or equal to e. Cannot tell from the information provided 15. Is production efficient under free trade? a. Definitely yes because at least one country always produces only its comparative advantage good b. Definitely no because at least one country always produces both goods c. Possibly, but only if each county produces only its comparative advantage good d. Possibly, but only if at least one country produces only its comparative advantage good e. Possibly, but only if both countries produce both goods 16. When the United States opens up to free trade (from autarky), a. All workers making hammocks will move to making bowls b. Some or all workers making hammocks will move to making bowls c. All workers making bowls will move to making hammocks d. Some or all workers making bowls will move to making hammocks e. Workers will not move between the sectors -4-
PROBLEMS (Ricardian Model) In the United States (US), producing one pound of cheese requires two hours of labor, while producing one gallon of wine requires one hour of labor. In the rest of the world (ROW), producing one pound of cheese requires 22 hours of labor, while producing one gallon of wine requires one hour of labor. The United States has 400 hours of labor and the ROW has 2200 hours of labor. World relative demand for cheese to wine is 1. Construct the US production possibilities frontier (all three forms). Determine the US maximum production of cheese and of wine. What is the US opportunity cost of cheese in terms of wine? Where does it appear in the equation describing production possibilities? Draw graph of US production possibilities frontier here: 0-5-
2. Construct the ROW production possibilities frontier (all three forms). Determine the ROW maximum production of cheese and of wine. What is the ROW opportunity cost of cheese in terms of wine? Compare the slopes of the two production possibilities frontiers which is flatter and why? Draw graph of the ROW production possibilities frontier here: 0 3. What is the world relative supply of cheese to wine if each country produces only its comparative advantage good? -6-
Construct world relative supply and world relative demand. Find the relative price of cheese in terms of wine under free trade. Draw graph of world relative supply and world relative demand here: 0 4. Determine the optimal production bundle for each country under free trade. Determine the pattern of trade - what does each country import and export? Determine whether each country gains from trade and explain the source of any gains from trade. -7-
5. Construct the US trade possibilities frontier (all three forms). Determine the US maximum consumption of cheese and of wine under free trade. Where does the free trade relative price of cheese in terms of wine appear in the equation describing trade possibilities? Draw graph of US trade possibilities frontier on the PPF graph. 6. Construct the ROW trade possibilities frontier (all three forms). Determine the ROW maximum consumption of cheese and of wine under free trade. Compare the slopes of the two trade possibilities frontiers and explain. Draw graph of ROW trade possibilities frontier on the PPF graph. On my honor as an Aggie, I have neither given nor received unauthorized aid on this exam. Signature -8-
FIRST MIDTERM EXAM SOLUTIONS Economics 452 International Trade Theory and Policy Spring 2011 MULTIPLE CHOICE 1e 2d For the United States with most of its largest trading partners, trade balance is negative so we have a trade deficit, meaning the value of our imports exceeds the value of our exports. Total value of US imports from and exports to Canada (trade volume) has been around $400-550 billion in 2005-2010. 3c Texas exports grew 2007-8, shrank 2008-9 & grew 2009-10. 4c If Texas were a nation, it would rank in the top 20 exporters. 5b The gravity model claims that the value of trade between two countries increases with the GDP of each country and decreases with the distance between them. 6a That trade with British Columbia is 1.9 of GDP for Ontario versus 0.2 for Ohio suggests that the border substantially reduces trade. 7c That trade is now around 25-30% of GDP in the US versus 40-45% in 1870-1910 in the UK suggests that international trade is less important for the US today than was for the UK before 1910. 8b Improvements in modern transportation and communication have caused distance to matter less and less for trade volumes. 9c 10a 11d 12d In autarky in Taiwan, the wage earned when making laptops is the same as (equal to) the wage earned when making paper towels. The United States imports only laptops. The United States gain from trade only if produces just paper towels. Under free trade, the wage in the United States will exceed the wage in Taiwan if the United States has absolute advantage in both goods. 13c Under free trade, the United States produces bowls and maybe hammocks. 14a The opportunity cost of bowls in terms of hammocks in China must be more than in the United States. 15a Definitely production is efficient under free trade because at least one country always produces only its comparative advantage good. 16b When the United States opens up to free trade (from autarky), some
or all workers making hammocks will move to making bowls. PROBLEMS (Ricardian Model) In the United States (US), producing one pound of cheese requires two hours of labor, while producing one gallon of wine requires one hour of labor. In the rest of the world (ROW), producing one pound of cheese requires twenty-two hours of labor, while producing one gallon of wine requires one hour of labor. The United States has 400 hours of labor and the ROW has 2200 hours of labor. World relative demand for cheese to wine is 1. Construct the production possibilities frontier for the United States Determine the US maximum production of cheese and of wine. What is the US opportunity cost of cheese in terms of wine? Where does it appear in the equation describing production possibilities? Absolute value of slope [GRAPH OF PRODUCTION POSSIBILITIES FRONTIER: horizontal axis labeled cheese, vertical axis labeled wine; cheese endpoint 200; wine endpoint 400; PPF label]
2. Construct the production possibilities frontier for the ROW. Determine the ROW maximum production of cheese and of wine. What is the ROW opportunity cost of cheese in terms of wine? Compare the slopes of the two production possibilities frontiers which is flatter and why? US production possibilities frontier flatter due to lower opportunity cost of cheese in terms of wine. [GRAPH OF PRODUCTION POSSIBILITIES FRONTIER*: horizontal axis labeled cheese, vertical axis labeled wine; cheese endpoint 100; wine endpoint 2200; PPF* label] 3. What is the world relative supply of cheese to wine if each country produces only its comparative advantage good?
Construct world relative supply and world relative demand. P C/PW RD = P W/PC RS 2 1/2 <1/11 11 1/11 1/11 22 1/22 >1/11 Find the relative price of cheese in terms of wine under free trade. [GRAPH OF RELATIVE DEMAND AND RELATIVE SUPPLY: horizontal axis labeled relative quantity of cheese (to wine), vertical axis labeled relative price of cheese (to wine); first step at 2, second step at 22; jump at 1/11 and free trade relative price 11; other two points on RD (2,1/2) and (22,1/22); RD label, RS label] 4. Determine the optimal production bundle for each country under free trade. Determine the pattern of trade - what does each country import and export? The United States exports cheese and imports wine; ROW exports wine and imports cheese. Determine whether each country gains from trade and explain the source of any gains from trade. Both countries gain from trade as the free trade relative price differs from both opportunity costs (and from both autarky relative prices). [Buying a pound of cheese for 11 gallons of wine with trade is cheaper than for foreign to stop producing five gallons of wine to make a pound of cheese. Buying a gallon of wine for 1/11 pound of cheese is cheaper than for home to stop producing 1/2 pound of cheese to make a gallon of wine.]
5. Construct the trade possibilities frontier for the US. Determine the US maximum consumption of cheese and of wine under free trade. Where does the free trade relative price of cheese in terms of wine appear in the equation describing trade possibilities? Absolute value of slope [GRAPH OF TRADE POSSIBILITIES FRONTIER: cheese endpoint 200; wine endpoint 2200; TPF label; position of TPF outside PPF] 6. Construct the trade possibilities frontier for the ROW. Determine the ROW maximum consumption of cheese and of wine under free trade. Compare the slopes of the two trade possibilities frontiers and explain. Same as the two countries face same relative price under free trade [GRAPH OF TRADE POSSIBILITIES FRONTIER*: cheese endpoint 200; wine endpoint 2200; TPF* label; position of TPF* outside PPF*]