Answers April 25, 2017

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1 Winter Term 2017 Page 1 of 21 (22) Economics 340 International Economics Prof. Final Exam Form (KEY) 0 Answers April 25, 2017 NAME: Student ID No.: INSTRUCTIONS: READ CAREFULLY!!! 1. Please do not open the exam until you are told to do so. 2. PLACE YOUR NAME AND STUDENT ID NO. ON THE EXAM AND ON THE SCANTRON SHEET. 3. Find the FORM NUMBER above and enter it where it asks for KEY on the scantron sheet. Be sure to fill in the bubbles. 4. This exam has 100 points and you have approximately 120 minutes to complete the test. Check that you have all 21 pages of the exam, including this cover sheet. 5. Part 1 consists of 35 multiple choice questions worth 1 point each. Answers to the multiple-choice questions in Part 1 should be marked on the scantron sheet using a #2 pencil. There are no penalties for guessing. 6. Part 2 consists of short-answer questions for which you must provide written answers on these sheets. Point values for questions in Part 2 are indicated in parentheses. Part 2 has 63 points total. 7. That leaves 2 points unaccounted for. You will get these if (and only if) you put your name and ID number on both this exam booklet and the scantron sheet, and if you enter the form number (see above) on the scantron. 8. Good luck!

2 Page 2 of 21(23) FORM 0 Economics 340 Final Exam Part 1: Multiple Choice (1 point each) Select the best answer of those given. Answers to this part should be marked on the scantron sheet using a #2 pencil. There is only one correct answer per question, and there is no penalty for guessing. 1. In which of the following countries is the ratio of exports to GDP closest to that ratio for the United States? a. Canada b. Germany c. Singapore d. Nepal e. Mexico d 2. One of the institutions created at Bretton Woods was designed to oversee a system that ultimately collapsed in the mid-1970s. Nonetheless, the institution continues to be important today, helping countries to manage and survive crises. Which institution is it? a. World Bank b. Worth Trade Organization c. International Monetary Fund d. OPEC e. ITO c

3 Page 3 of 21(23) 3. Suppose that Japan and Korea have the per unit labor requirements for producing cars and trucks shown in the table at the right. Then Korea has a. An absolute advantage in cars. b. An absolute advantage in trucks. c. A comparative advantage in cars. d. A comparative advantage in trucks. e. None of the above. Good Country Japan Korea Cars Trucks d 4. According to the Heckscher-Ohlin Model of international trade, if a country reduces its trade barriers, it will a. Export a good in which it has a comparative disadvantage. b. Specialize in an industry with increasing returns to scale. c. Increase its tariff revenue. d. Expand production of the good that uses intensively its scarce factor. e. See its factor prices become more similar to those in other countries. e 5. Which of the following is an implication of the New Trade Theory? a. A country may both export and import goods in the same industry. b. Countries as a whole must gain from trade. c. A country can only hurt itself by using government policies to promote exports. d. Consumers lose from the increased variety of goods that trade makes available. e. A tariff to protect an industry in a small country hurts demanders more than it helps suppliers. a 6. Which of the following is always made better off when a country increases its tariff on imports of a good? a. Domestic producers of the good. b. Domestic consumers of the good. c. The country as a whole, including its government. d. The rest of the world. e. All of the above.

4 Page 4 of 21(23) a 7. According to the assigned article by Feenstra, How Costly is Protectionism, trade barriers in the United States cause losses of economic efficiency that are a. Negative. That is, the world is made better of by U.S. protectionism. b. Zero. Protectionism does not matter for efficiency, and merely transfers income from one group to another. c. Positive but small, less than one percent of U.S. GDP. d. Comparable in size to the share of exports in U.S. GDP. e. Larger today than at any time in the last century. c 8. The main difference between a tariff and a quota is that a. A quota reduces the quantity of imports more than a tariff. b. A tariff raises the price of imports more than a quota. c. A quota does not harm domestic consumers. d. A tariff does not harm foreign producers. e. A tariff generates government revenue, while a quota, unless it is sold, does not. e 9. Among reasons listed for protection, retaliation is listed as a. Making economic sense, because a tariff raises welfare if other countries are using tariffs. b. Not making economic sense, because a tariff raises welfare if other countries are using tariffs. c. Making economic sense because threat of a tariff may induce other countries to open their markets. d. Not making economic sense because threat of a tariff will only cause other countries to raise theirs. e. None of the above. c

5 Page 5 of 21(23) 10. The Escape Clause permits the United States to a. Provide extended unemployment compensation to workers displaced by trade. b. Resign from the World Trade Organization. c. Shift its trade in a good to a different trading partner. d. Limit imports in an industry if those imports are being priced unfairly. e. Limit imports in an industry if imports are causing injury to domestic interests. e 11. Which of the following was not one of the GATT or WTO negotiating rounds? a. Kennedy b. Doha c. Tokyo d. Nixon e. Uruguay d 12. UNCTAD is a United Nations institution that a. Enforces intellectual property rights. b. Represents the interests of developing countries. c. Oversees the placement and well-being of refugees. d. Administers international treaties regarding labor standards and labor rights. e. Makes loans to poor countries. b 13. Based on the supply-and-demand model of migration, who does not gain when workers migrate from low-wage Mexico to high-wage United States? a. The workers who migrate b. The workers in Mexico who do not migrate c. The workers in who were already in the United States d. Owners of firms in the United States e. Nobody. That is, everybody in both countries gains from migration. c

6 Page 6 of 21(23) 14. Foreign direct investment was not large during the 1950s and 1960s. Why? a. Many countries still had controls on capital flows and the exchange of currencies. b. The World Bank discouraged FDI as being detrimental to economic growth. c. The IMF required that FDI be restricted in order to facilitate the regime of pegged exchange rates. d. Levels of investment generally were small, so that there was little available for FDI. e. FDI was antithetical to the Cold War. a 15. Which of the following would enter positively in the accounts of U.S. international transactions? a. A U.S. bank makes a loan to a German corporation. b. A British author receives royalties on a book that she published in the United States. c. The American subsidiary of a Japanese car company sells a car, manufactured in Ohio, to an American living in Michigan. d. An American teacher sells shares of stock that she previously owned in a corporation based in Thailand. e. An Australian tourist in China buys counterfeit CDs of an American rock music group. d 16. A surplus in the balance of trade or the balance on current account (assume they re the same for this question) implies that a. The country s economy is healthy. b. The country s volume of employment is expanding. c. The country is acquiring more assets abroad than foreigners are acquiring in it. d. The country is spending on goods and services more than it is earning from producing them. e. The country is accumulating reserves of foreign currency. c

7 Page 7 of 21(23) 17. A trade-weighted exchange rate is a. A currency that is depreciating due to a rise in imports. b. An index of the value of a currency relative to several others, weighted by amounts of trade. c. The price that a seller of foreign currency will get if he or she is willing to wait 30, 60, or 90 days for payment. d. The nominal exchange rate adjusted for inflation on traded goods. e. The ratio of the value of a country s exports to the value of its imports. b 18. Suppose that the country of Econostan pegs its currency, the wiggo, to the Icelandic drona at a rate of 1.4 w. per dr. Suppose also that, at this rate, participants in the exchange market supply more dronas (in exchange for wiggos) than they demand, and the Econostan central bank must intervene in the exchange market to maintain the peg. The central bank also engages in accompanying sterilization operations in its domestic bond market. Based on this information which of the following is true? a. Econostan s central bank is selling bonds. b. The domestic money supply of Econostan is increasing. c. The wiggo is overvalued. d. Econostan s international reserves are declining. e. The value of Econostan s exports is greater than the value of its imports. a 19. Suppose that the European Central Bank were to raise interest rates in the Eurozone. Based on your knowledge of how macroeconomic changes such as this affect the exchange market, which of the following would you expect to see happen as a result? (You should assume that this policy change does not cause the European economies to expand or contract.) a. Capital will flow out of the Eurozone. b. The ECB will lose international reserves. c. The euro will appreciate. d. The Eurozone money supply will get larger. e. There should be no effect. The ECB controls only the domestic interest rate within Europe, not the interest rate on international transactions. c

8 Page 8 of 21(23) 20. Independently Floating Exchange Rates describes the exchange regimes of a. The major industrialized countries outside Europe. b. All but a small minority of the countries of the world. c. More than 75% of very poor countries. d. Most very small countries. e. More countries than have what the IMF calls soft pegged exchange rates. a 21. Under a crawling peg a. The exchange rate moves, but by amounts too little to notice. b. The exchange rate is permitted to change, but only within a fixed band and only slowly. c. The par value of the currency is kept secret and changed slowly over time. d. The central bank intervenes to slow down the exchange rate movements that occur within a day. e. The central value of a pegged exchange rate is changed frequently, by small amounts, and with advance notice. e 22. Which of the following is not one of the reasons why countries of the Eurozone have difficulty adjusting to asymmetric shocks? a. Wages are rigid so that markets don t adjust. b. Without monetary policy, and with constraints on use of fiscal policy, the countries have fewer policies to deal with shocks. c. Migration among Eurozone countries, though permitted, is not very common. d. There is no mechanism for financial assistance from countries enjoying cyclical peaks to other countries that are in recession. e. Their commitment to common tax rates makes it impossible to use tax cuts to stimulate their economies. e

9 Page 9 of 21(23) 23. What ended the Eurozone Crisis? a. The election of Donald Trump. b. Brexit. c. The departure of Greece from the Eurozone. d. The statement by the ECBs Mario Draghi that he would do whatever it takes to save the Eurozone. e. The haircut forced on Eurozone creditors. d 24. As of 2016, how many preferential trading arrangements have been notified to the WTO? a. None. PTAs exist, but the WTO has nothing to do with them. b. None. PTAs were made illegal in the Uruguay Round agreement. c. Three d. Almost 100 e. More than 400 e 25. Developing countries sometimes object to free trade that will lead them to specialize in primary products because a. Only poor countries export agricultural goods. b. They believe that the prices of primary products tend to fall over time. c. Their costs of producing primary products are higher than the costs of producing them elsewhere. d. Production of primary products is harmful to the environment. e. They would rather consume manufactured goods. b

10 Page 10 of 21(23) 26. The use of a tariff to assist the growth of an infant industry is said to be second best because a. A tariff will actually make the protected industry shrink, not grow. b. Some other policy exists that will provide the same assistance at lower economic cost. c. The benefit to the protected industry spills over, through an external economy, to another industry. d. It will only work if the industry is able, by producing, to learn to be more productive. e. The tariff reduces the price of the protected good in some other, second, country. b 27. In Why Is the World Bank Still Lending? Adam Lerrick argues that the World Bank should stop making loans to developing countries in part because a. The World Bank should make a profit. b. In the past, World Bank loans have gone mostly to friends and relatives of World Bank staff. c. The credit of the more successful developing countries has improved in private financial markets. d. The least successful developing countries have shown themselves undeserving of assistance. e. The countries whose governments provide financing for the World Bank can no longer afford to do so. c

11 Page 11 of 21(23) 28. The Asian Crisis of 1997 was marked, for the countries that were hardest hit, by a large and painful change in the value of each country s currency on the exchange market. What was the direction of this change (did the countries currencies appreciate or depreciate?), and why was it painful? a. They appreciated, which was painful because this made their exports uncompetitive on world markets. b. They depreciated, which was painful because this raised the value of their debts compared to their assets. c. They appreciated, which was painful because their central banks then had to defend over-valued exchange rates. d. They depreciated, which was painful because it reduced the value of what they were paid for exporting. e. They appreciated, which was painful because it caused political friction with their largest trading partners. b 29. Susan Rice, in an assigned reading, gives several reasons why the US should spend more fighting poverty around the world. Which if the following is not one of those reasons? a. Poverty fosters conflict that can spill over to other countries and involve the US. b. Terrorists take sanctuary in poor countries. c. Extremist groups win over poor populations by providing services to them. d. Poverty breeds diseases that may cross borders. e. Helping poor countries will cause them to vote with the US in the United Nations. e 30. When a country switches from high-cost imported inputs to lower-cost imported inputs from a different country, a. Productivity appears to rise because GDP rises while actual output remains unchanged. b. Productivity appears to fall because GDP rises while actual output remains unchanged. c. Productivity appears to rise because GDP falls while actual output remains unchanged. d. Productivity appears to fall because GDP falls while actual output remains unchanged. e. Measured GDP remains unchanged, but actual output falls.

12 Page 12 of 21(23) a 31. Environmentalists sometimes object to the World Trade Organization because it decided against the United States in a dispute involving a. Shrimp and turtles b. Avocadoes and white-tailed deer c. Bananas and soft-wood lumber d. Coal and nuclear power e. Subsidies to agriculture a 32. The International Labor Organization a. Defends the right of developing countries to pay low wages. b. Advocates a weaker set of labor standards than the United States has been willing to sign onto in ILO conventions. c. Promotes a long list of labor standards, only a few of which the United States has been willing to ratify. d. Has the power to restrict exports of countries that mistreat their workers. e. Is said to be dominated by the interests of large multinational corporations. c 33. Who made news by speaking in favor to globalization at the World Economic Forum in Davos, Switzerland. a. Barack Obama b. Theresa May c. Marine Le Pen d. Xi Jinpeng e. Donald Trump d

13 Page 13 of 21(23) 34. In the news, a US trade court ruled that a Snuggie is a blanket, not apparel. Why does this matter? a. The US does not permit imports of blankets. b. The tariff on blankets is 8.5%, but the tariff on apparel is 14.9%. c. Walmart was underpricing the Snuggie and will now have to compensate competing producers. d. Buyers of Snuggies will no longer be permitted to wear them. e. Commercials for the Snuggie have misrepresented what it is. b 35. President Trump recently nominated two people to be members of the board of the United States Export-Import Bank. This is of interest because a. He had promised to do this during his campaign, but had been slow to act. b. It will now, with a quorum for the first time in several years, be able to approve large loans to foreign purchasers of US exports. c. He selected as head of the Ex-Im Bank a strong advocate who had been an executive of the Boeing Corporation. d. This signaled Trump s willingness to spend government funds subsidizing exports. e. All of the above. b

14 Page 14 of 21(23) Part II: Short Answer Answer on these sheets in the space provided. 1. (6 points) What do the following acronyms stand for in international economics and/or what do they mean? a. GATT Ans.: General Agreement on Tariffs and Trade (or Trade and Tariffs): The agreement among major countries after World War II to constraint their harmful uses of trade policies. b. IBRD Ans.: International Bank for Reconstruction and Development: The original name of the World Bank. c. MFN Ans.: Most Favored Nation: the principle of the GATT and WTO that member countries must treat other members as well as they treat the most favored nation that is, not charge higher tariffs on one nation s exports than another s.

15 Page 15 of 21(23) d. USTR Ans.: United States Trade Representative: The office of the US government that negotiates on trade policies with other countries and with international institutions. e. ECB Ans.: European Central Bank: The central bank of the Eurozone f. GSP Ans.: Generalized System of Preferences: A system, permitted under GATT and the WTO, for developed countries to charge lower tariffs on imports from selected developing countries than they do on others.

16 Page 16 of 21(23) 2. (6 points) Each of the tables below shows either the amounts of labor required to produce one unit of each of two goods in two countries, or the outputs per unit of labor in each industry and country. Fill in the blanks with the name of a good or country, or with one of the words both or neither, as appropriate. a. Argentina (country) has an absolute Labor needed advantage in producing beef. per unit of output Country Brazil (country) has a Good Argentina Brazil comparative advantage in producing pork. Beef Pork b. Italy has a comparative Output advantage in producing (good) cars per unit of labor Country Spain has an absolute Good Italy Spain advantage in producing (good) neither Cars Trucks c. France has an absolute Labor needed advantage in producing (good) honey per unit of output Country France has a comparative Good France Togo advantage in producing (good) honey Honey Ships 30,000 20,000

17 Page 17 of 21(23) 3. (11 points) The figure at the right shows domestic supply and demand for a good in a small country. The country faces the fixed world price, P w. Using the prices, quantities, and areas labeled in the figure, answer the following: a. With free trade, how much of the good will this country export and import? P P 2 P 1 P w a b c d e f g h i j k l m S Q 1 Q 2 Q 3 Q 4 Q 5 D Q Quantity exported = 0 Quantity imported = Q 5 Q 1 b. Suppose now that the country places a quota on imports of this good, permitting only the quantity Q = (Q 4 Q 2 ) into the country. What will be the new domestic price and quantities produced and consumed? Price = P 1 Produced = Q 2 Consumed = Q 4 c. Assuming that the licenses to import under the quota are sold by the government to the highest bidders, indicate who gains and who loses from the quota, and by how much (use + and signs to indicate gains and losses respectively). Producers: +d Consumers: (d+e+f+g+h) Government: +(f+g) Country as a whole: (e+h) d. Suppose now that the quota you have been looking at was larger than half of the original quantity of imports under free trade (as it is in the figure). Let the government now double the size of the quota, issuing twice as many import licenses as before and thus permitting twice as much imports as before. Indicate what will happen to the domestic price and to government revenue from quota licenses by checking the appropriate answers below: Price Revenue Above P 1 More than before Equal to P 1 Same as before Between P w and P 1 Lower than before, but positive ü Equal to P w ü Zero Below P w Negative

18 Page 18 of 21(23) 4. (11 points) The table at the right shows hypothetical values for the consumer price indexes (CPI) of the U.S., the U.K., and Japan in 2000 and Their currencies are also indicated as the dollar ($), pound ( ), and yen ( ) respectively. Suppose that exchange rates in 2000 were U.S. U.K. Japan Currency: $ CPI 2000: CPI 2005: : $/ = 1.25, /$ = 120 If you are uncertain of your calculations in parts (a)-(c) below, show your calculation so that you may get partial credit. a. Calculate the following exchange rates for 2000: /$ = 0.8 $/ = or.008 / = 150 b. By what percentage did prices change from 2000 to 2005 in each of the three countries? Price increases: U.S. = 10 % U.K. = 25 % Japan = 5 % c. Calculate the following exchange rates for 2005, assuming that the Purchasing Power Parity Theory holds: 2005: $/ = or 1.1 /$ = 114 or / = 120 or 126 (The first answers are done using an approximation that is not very accurate for these large changes. The second answer, using the real exchange rate equation, is more accurate.) d. Continuing to assume that PPP holds, did the yen appreciate, depreciate, or remain unchanged in value relative to the U.S. dollar? Answer for both the nominal exchange rate and the real exchange rate, by checking one of the options in each case. (Grading here will not depend on your answers to part (c)). From 2000 to 2005 in nominal terms, the yen in real terms, the yen ü appreciated appreciated depreciated depreciated remained unchanged ü remained unchanged

19 Page 19 of 21(23) 5. (16 points) In each of the cases below, diagrams show the foreign exchange market for a particular country vis a vis the U.S. dollar (which is therefore the foreign currency in each case). The country s currency is either floating or pegged, as stated, and if it is pegged, the central bank of the country is either sterilizing or not sterilizing, as also stated. You are to answer the questions asked, in each case, and also draw into the diagram the new positions for the curve or curves that shift in each case in response to the change stated in part (ii) of each question. a. Germany pegs the DM to the $ at the rate shown as R 0, and it does not sterilize. DM/$ R 0 S $ i) In the initial situation, Germany s reserves are ü expanding, contracting, holding constant, D $ Q $ and its money supply is ü expanding. contracting. holding constant. ii) The interest rate in the United States now falls. Show in the figure how this will alter the supply and/or demand curves. The supply curve shifts right and/or the demand curve shifts left. iii) As a result of the change in part (ii), Germany s exchange rate will ü appreciate, depreciate, remain unchanged, and its reserves will ü rise more rapidly. rise less rapidly. fall more rapidly. fall less rapidly. continue to change as before. continue to remain constant.

20 Page 20 of 21(23) b. The U.K. lets the pound float, and the initial equilibrium exchange rate is R 0 as shown. /$ S $ R 0 i) In the initial situation, The U.K. s reserves are expanding, contracting, ü holding constant, D $ Q $ and its money supply is expanding. contracting. ü holding constant. ii) U.K. consumers now increase their demand for sport utility vehicles produced by the United States. Show in the figure how this will alter the supply and/or demand curves. The demand curve shifts right. iii) As a result of the change in part (ii), The U.K. s exchange rate will ü appreciate, depreciate, remain unchanged, and its exports will ü increase. decrease. remain unchanged.

21 Page 21 of 21(23) c. Japan pegs the yen to the dollar at the rate shown as R 0 and it does sterilize. /$ S $ R 0 i) In the initial situation, ü selling Japan is buying dollars neither buying nor selling selling and ü buying bonds neither selling nor buying ii) The Japanese government now uses a successful expansionary fiscal policy that increases its interest rate, income, and price level. Assuming as usual that the interest-rate effect is stronger than the trade effect, show in the figure how this will alter the supply and/or demand curves. Due to the interest-rate effect, the supply curve shifts right and/or the demand curve shifts left. The demand curve may also shift right due to the trade effect, but only if the supply curve shifts right by more. iii) As a result of the change in part (ii), D $ Q $ Japan s exchange rate will and its money supply will ü ü depreciate, appreciate, remain unchanged, rise more rapidly. rise less rapidly, or even fall. fall more rapidly. fall less rapidly, or even rise. not change. d. Which of the domestic currencies depicted in the graphs of parts (a)-(c) is initially overvalued? DM ü

22 Page 22 of 21(23) 6. (5 points) The United States and other developed countries (DCs) are relatively better endowed with skilled labor, compared to unskilled labor, than are less developed countries (LDCs). That is, the DCs have a higher ratio of skilled labor to unskilled labor in their endowments than do LDCs. Use this fact and your other knowledge from the course to answer the following questions about the effects of free trade. a. Based on the Heckscher-Ohlin (HO) model, free trade should involve imports of what kinds of goods by DCs and LDCs? DCs should import ü unskilled-labor intensive goods skilled-labor intensive goods LDCs should import ü unskilled-labor intensive goods skilled-labor intensive goods b. Also based on the HO model, free trade should cause what changes in the wages of skilled and unskilled labor in DCs and LDCs? Wages of skilled workers in DCs should ü fall rise Wages of unskilled workers in DCs should ü fall rise Wages of unskilled workers in LDCs should ü fall rise 7. (2 points) a. What is the difference between trade creation and trade diversion? Ans.: Trade creation is importing from a PTA partner something that you previously produced at home, while trade diversion is importing from a PTA partner something that you previously imported from a country outside the PTA. b. What, according to our lecture on the topic, is the difference between outsourcing and offshoring? Ans.: Outsourcing is movement of an activity outside the firm while offshoring is movement of an activity outside the country.

23 Page 23 of 21(23) 8. (6 points) Define: a. Voluntary export restraint Ans.: A restriction on the quantity of a country s exports that is implemented at the request of the importing country. b. Appellate Body Ans.: A group of trade experts in the WTO to whom countries can appeal panel decisions in dispute settlement cases. c. Brain drain Ans.: The migration of highly skilled or educated workers out of a country.

24 Page 24 of 21(23) d. Dirty float Ans.: An exchange market that is left free to determine the exchange rate (without a peg), but in which the central bank intervenes behind the scenes in an effort to influence the rate.. e. Import substitution Ans.: A strategy of economic development that relies on limiting imports and replacing them with domestic production. f. Freedom of association Ans.: One of the core labor standards of the International Labor Organization, signifying the right of workers to talk with union organizers.