Problem Set 1_Answers

Problem Set 1_Answers - UNIVERSITY OF SOUTHERN CALIFORNIA...

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Unformatted text preview: UNIVERSITY OF SOUTHERN CALIFORNIA Marshall School of Business FBE 462 – International Trade Answers to Problem Set #1 1. Which one of the following is not implied by the Mercantilism? a. Trade is a zero-sum game. b. Export but not import contributes to national welfare. c. Policies to restrict import are necessary. d. A nation gains from trade by importing those goods in which it has the least comparative advantage. 2. Which one of the following could be the main explanation of why U.S. exports chicken feet to China? a. Production of chicken feet has increasing returns to scale. b. China is not endowed with resources for producing chicken. c. Chinese labor cost of producing Chicken is too high. d. Demand for chicken feet in China is higher than in U.S. 3. The terms of trade of a country is a. a ratio of its export price index to its import price index. b. a ratio of its import price index to its export price index. c. a ratio of its wage to its price index. d. its opportunity cost of production. FBE 462 Answers to Problem Set #1 1. a. With free trade at $26 per barrel: Domestic production QS: 26 = 0.5 + 8.5QS, or Qs = 3.0 billion barrels. Domestic consumption QD: 26 = 92 - 10QD, or QD = 6.6 billion barrels. SUS Price ($/barrel) 26.00 DUS 3.0 6.6 Quantity (billions of barrels) b. With no imports, domestic quantity supplied must equal domestic quantity demanded (both equal to QN) at the domestic equilibrium price P: 92 - 10QN = 0.5 + 8.5QN, or QN = 4.946 billion barrels produced and consumed. Using one of the equations, we can calculate that the domestic price would be $42.54 per barrel. Price ($/barrel) SUS 42.54 26.00 o I I DUS 4.946 3.0 6.6 Quantity (billions of barrels) c. Domestic producers of oil would gain, receiving an increase of producer surplus shown as area o in the graph. Domestic consumers of oil would lose, experiencing a loss of consumer surplus shown as area o + i + l in the graph. 2. The demand curve DUS shifts up (or to the right). The U.S. demand-for-imports curve Dm shifts to the right (or up). The equilibrium international price increases above 1,000—it is shown by the intersection of the new U.S. Dm curve and the original Sx curve. 3. The supply curve SUS shifts down (or to the right). The U.S. demand-for-imports curve Dm shifts to the left (or down). The equilibrium international price decreases below 1,000—it is shown by the intersection of the new U.S. Dm curve and the original Sx curve. 2 FBE 462 Answers to Problem Set #1 4. a. In the graphs below, the free trade equilibrium price is PF, the price at which the quantity of exports supplied by Country I equals the quantity of imports demanded by Country II. (The quantity-of-imports demanded curve for country II is the same as the country's regular demand curve.) This world price is above the no-trade price in country I. The quantity traded with free trade is QT. P S P F P S P I a bc P F XI e c P P F e NI QT Q D D DI II MII Q QT QT Q b. In Country I producer surplus increases by area a + b + c, and consumer surplus falls by area a + b. The net national gain from free trade is area c. In country II consumer surplus increases by area e and this is also the net national gain from trade. Because there is no domestic production in Country II with or without trade, there is no change in producer surplus. 3 ...
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