International Economics Econ 4401 Midterm Exam Key

Transcription

1 International Economics Econ 4401 Midterm Exam Key Tim Uy Name: Student Number: 1 Short Answer Questions (30 Points) 1. [5] Give five reasons (or five theories that explain) why countries trade. Acceptable answers include: Different endowments Different technologies Increasing returns to scale Different preferences Love for variety Consumption smoothing or the corresponding models. 1

2 2. [6] Name and define two types of foreign direct investment (FDI). For each type of FDI, state the location(s) where such investment is usually made. Explain why that is the case. Horizontal FDI: replicating the production process in a foreign country; usually conducted in a rich or developed country. Vertical FDI: breaking up the production process and producing intermediate goods in a foreign country, usually a developing one. 3. [6] Consider a 2 x 2 x 2 Heckscher-Ohlin model where country 1 is capitalabundant (country 2 capital-scarce) and the two factors (capital and labor) are used to produce good 1, which is capital-intensive, and good 2, which is laborintensive. Following the liberalization of trade, what good(s) does country 1 export? What about country 2? Who gains and loses in country 1? What about winners and losers in country 2? Explain. Country 1 exports good 1; country 2 exports good 2. Producers of good 1 gain in country 1; good 2 producers lose. The opposite is true in country 2. 2

3 4. [4] How does faster economic growth in developing countries like India and China impact workers and consumers in the developed world? What are the pros and cons to trading with these developing nations? Many possible answers to this question. For example, consumers gain with lower prices and more variety as a result of foreign imports. Workers are also affected in different ways. Some get laid off due to import competition; others get higher wages as a result of greater demand for their skills or the services they provide. 5. [3] What are some of the policy instruments countries use to regulate trade? Name at least three and explain the differences between these policy tools. Many possible answers to this question as well. Tariffs, quotas, and voluntary export restraints are some examples. A tariff is essentially a tax on the price of foreign imports. A quota is a limit on the quantity of foreign imports allowed into the country. A voluntary export restraint stipulates that a country will export no more than what is specified in the agreement. 3

4 6. [3] How can trade benefit an entire country and create winners and losers within that country at the same time? In the models that we ve seen in class, are there any models for which an entire country suffers following the liberalization of trade? Justify your answers. Trade can create winners and losers within a country even when the country gains as a whole because different types of workers/producers earn different returns. For example, in the HO case mentioned in question 3, good 1 producers in country 1 gain because the price of the good they produce goes up following trade liberalization; the converse is true for good 2 producers in country 1. There are no models discussed in class for which trade is bad for the entire country. The only possible exception to this is related to the trade diversion argument that occurs when countries do not liberalize simultaneously. 7. [3] How can a 1% drop in output or income be followed by a 5% drop in trade? What does your answer to this question mean for firms that are considering producing overseas? What other factors play a role in the location-choice decision made by firms in an increasingly global economy? Vertical specialization. See the reading related to this. Many factors play a role in the location-choice decision made by globally-minded firms: production costs (labor, raw materials, etc), transport costs, infrastructure, etc. 4

5 2 True or False (30 Points) False 1. Ricardian trade is driven by differences in factor endowments. False 2. Countries that trade more also grow faster. False 3. Firms are responding to protectionist measures when they draw down their inventories during a recession, hence leading to reduced trade. True 4. A country can still have comparative advantage even when it does not have absolute advantage in the production of that good. False 5. Because more and more Canadian jobs are being offshored, Canadian unemployment has to rise over time. False 6. Complex supply chains motivate firms to shift their operations abroad. False 7. Intraindustry trade is not as quantitatively significant as interindustry trade in accounting for the growth of trade flows over time. False 8. State-owned multinational enterprises originate primarily from the developing world, and grow in size as a result of their efficiency. False 9. A greenfield investment is one wherein a multinational firm purchases shares of a domestic company. False 10. Tariffs that restrict imports to the same amount as a comparable quota are worse for welfare. False 11. A specific-factors model predicts that all workers gain when the price of the skill-intensive good rises relative to the good made with unskilled labor. True 12. All countries can gain from greater trade (i.e. it is not zero-sum). True 13. In the absence of trade, the return to capital in a capital-abundant country is lower than the same return in a capital-scarce country. True 14. Trade equalizes goods prices, not factor returns, across countries. True 15. FDI flows have grown more than trade flows in the last 20 years. 5

6 3 Economic Models (40 Points) Question 1. Trade Policy. Consider a small open economy where the market for rackets is described by the following demand and supply equations: Q D = 2048 p Q S = 2p (a) [5] What is the autarky price for rackets in this country? p=32. (b) [5] Suppose that the world price of rackets is p W = 4. At this price, how much would the country produce? How much would it demand? How much would it import? Demand is 512. Supply is 8. It imports the difference between demand and supply, 504. (c) [5] Suppose that the country imposes a tariff of t percent on all racket imports. Find the tariff level required to limit total imports of rackets to 96. t=300%. (d) [5] What can you say about the welfare of local consumers under the three regimes (autarky, free trade, tariff) considered above? What about local producers? Are there winners and losers? Consumers prefer free trade to a tariff regime, which they prefer relative to autarky. The opposite is true of producers. 6

7 Question 2. Comparative Advantage. Two countries, Home and Foreign, use one factor, labor, to produce two goods, Shipyards (S) and Nurseries (N). The Home country can produce Ships with three units of labor and Nurseries with two units of labor. The Foreign country can produce Ships with one unit of labor and Nurseries with four units of labor. Home country is endowed with a labor force of 900 units, while the endowment for the foreign country is 300 units. Preferences in each country can be described by the following utility function: U(N, S) = 2 3 log N log S (a) [5] Which country has absolute advantage in producing Shipyards? Nurseries? Home - nurseries; Foreign - shipyards. (b) [5] Which country has a comparative advantage in producing Shipyards? How is this relevant in determining the pattern of production in a world where the countries can trade? Explain. Foreign. This means that they will export shipyards in return for nurseries. (c) [5] How much does Home consume and produce in autarky? L n = 600, L s = 300, N = 300, S = 100 (e) [5] Now consider the case where the two countries are allowed to trade. List all the possible cases of specialization or diversification for the two countries. Justify your answer. A country can either produce both goods or specialize in one of the goods. The list of all possible cases involves enumerating all the possible permutations of said production pattern for both countries. 7