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Unformatted text preview: QUICK QUIZ 1. Assume that there are two inputs, two goods, and two countries. Assume that for any set of factor prices, aKX/aLX = aKY/aLY and bKX/bLX = bKY/bLY∙ The two countries' production possibilities frontiers (a) would be concave, or bowed out from the origin. (b) would be convex, or bowed in from the origin. (c) would be straight lines. (d) would be undefined. (e) would be identical. (f) (c) and (e). 2. A firm's production function is X= 5LK. If the wage rate is $10 and the capital rental rate is $20 per unit, which of the following input combinations would the firm prefer to use to produce 250 units of good X? (a) L=50; K= 1. (b) L=25; K = 2. (c) L=10; K=5. (d) L=5; K= 10. (e) L=2; K=25. (f) the firm would be indifferent, because all the above combinations satisfy the production function. 3. A country will capture a larger share of the gains from trade (a) the closer are the autarky price ratios in the country and its trading partner. (b) the farther apart are the autarky price ratios in the country and its trading partner. (c) the closer are the international terms of trade to the trading partner's autarky price ratio. (d) the closer are the international terms of trade to the country's autarky price ratio. (e) the closer are the country's autarky output prices to its opportunity costs. (f) none of the above are true, because trading partners always share the gains from trade equally. 4. Under increasing costs, if tastes are identical in two countries (a) trade will be mutually beneficial. (b) those countries will not be willing to trade because they both want to consume the same goods. (c) the countries will have no pattern of comparative advantage. (d) the countries' production bias, if any, will determine the pattern of comparative advantage. (e) the theory of comparative advantage will not work, so they must rely on the theory of absolute advantage for trade. (f) residents of the two countries will consume goods in the same proportions in autarky. 5. Production of good X is labor intensive if (a) (aLX/aKX) > (aLY/aKY). (b) (aLX/aKX) < (aLY/aKY). (c)(aLX) > (aLY). (d) (aLX) < (aKY). (e) both (a) and (c) are true. (f) wages in the X industry are lower than wages in the Y industry. 6. The term production bias refers to the tendency of a country to (a) produce goods the country's residents like to consume. (b) produce goods the country's trading partners like to consume. (c) have a production possibilities frontier biased toward the good that uses the country's abundant factor intensively. (d) produce goods that have a relatively high opportunity cost in that country. (e) produce a combination of goods that will keep the wage rate as low as possible. (f) produce a combination of goods that will keep the wage rate as high as possible. 7. The Heckscher‐Ohlin theorem states that (a) a change in an output's price will lead to a more‐than‐proportional change in the same direction in the price of the input used intensively in the good's production. (b) opening trade will equalize factor prices across countries. (c) opening trade will equalize output prices across countries. (d) under unrestricted trade and identical tastes, a country will tend to specialize in and export the good that uses the country's abundant factor intensively. (e) tastes are similar enough across countries to ignore taste differences in examining international trade. (f) even countries with identical tastes and identical production possibilities frontiers will still find trade mutually beneficial. 8. In autarky under increasing cost (a) MRS= MRT = Px/Py. (b) MRS= MRT > Px/Py. (c) MRS= MRT < Px/Py. (d) MRS> MRT = Px/Py. (e) MRS< MRT = Px/Py. (f) MRT > MRS = Px/Py. 9. Under increasing cost, the equilibrium international terms of trade (a) represent the rate at which good X and good Y exchange in the international market. (b) must simultaneously clear the markets for goods X and Y. (c) must lie between the two countries' autarky price ratios. (d) determine how the gains from trade are divided between the two countries. (e) are correctly described by all ofthe above. (f) are correctly described by (a) and (d) only. 10. With two goods and two inputs, country A is labor abundant if (a) country B is capital abundant. (b) LA > LB. (c) KA < KB. (d) LA/KA > LB/KB. (e) both (a) and (d) are true. (f) both (a) or (b) are true. PROBLEMS AND QUESTIONS FOR REVIEW 1. (a) Define an isoquant. (b) Explain why isoquants are downward sloping. (c) Explain why isoquants are convex. 2. Assume that (aKX/aLX) > (aKY/aLY), (KA/LA) < (KB/LB), and countries A and B have identical tastes and technologies. How would the production possibilities frontiers of the two countries differ? Why? 4. Upon graduation, you're offered a position as Chief Minister of Trade for a small country. a) The President of the country greets you with the statement: "To benefit from free trade, a country must have a comparative advantage in the production of some good. But we can't hope to compete with an industrial giant like the U. S. which has a comparative advantage in all goods." How do you respond? b) The Minister for Industry greets you with: "If we were a large, highly developed country, I would certainly support free trade. But we are small and underdeveloped. It takes us more resources to produce a unit of each and every good than other countries. Therefore, for us, free trade isn't a viable policy." How do you respond? 5. In a world with two goods (X and Y) and two countries (A and B), write in algebraic terms the statement "Good Y is capital intensive." 8. In a world of two countries (A and B) and two goods (X and Y), write a definition of comparative advantage under increasing costs algebraically and in words. 9. Define factor abundance according to: a) The price‐based definition b) The quantity‐based definition 10. State the Heckscher‐Ohlin theorem. 11. Explain whether the following statements are true, false, or uncertain (that is, sometimes true, sometimes false) and why. a) Autarky production points affect comparative advantage under increasing costs conditions, but not under conditions of constant costs. b) The concept of comparative advantage runs counter to economists' concept of opportunity costs. c) Even if two countries have identical factor endowments and technology, there's still a basis for mutually beneficial trade if they have different tastes. 14. How does a concave, or bowed‐out, production possibilities frontier reflect increasing costs? 15. Why do the autarky relative prices in the two countries form limits or bounds on the international terms of trade? Explain. ANSWERS TO QUICK QUIZ 1. c. 2. c. 3. c. 4. d. 5. a. 6. c. 7. d. 8. a. 9. e. 10. e. ANSWERS TO PROBLEMS AND QUESTIONS FOR REVIEW 1. a. An isoquant is a graphical technique for representing the various combinations of two inputs that can be used to produce a given level of output. b. Isoquants are downward sloping because inputs are substitutable; if less of one input is used, more of the other must be used to keep the level of output unchanged. c. Isoquants are convex because as production becomes more and more intensive in the use of one input, substitution of more of that input for the other one becomes more and more difficult. Larger and larger quantities of the intensively‐used factor are required to compensate for the loss of successive units of the other factor. 2. (a), (b) Good X is the capital‐intensive good, and country B is the capital‐abundant country. Therefore, country A's production possibilities curve will exhibit a production bias toward good Y, the labor intensive good, and country B's toward good X. 4. a) By definition, a single country can't have a comparative advantage in all goods. Even a small, poor country will have goods of comparative advantage, typically those goods involving intensive use of the country’s abundant factor, often unskilled labor. b) The minister is using the definition of absolute rather than comparative advantage. But trade can still be mutually beneficial even if one country has an absolute advantage in both goods. 5. aKX/aLX < aKY/aLY and bKX/bLX < bKY/bLY 8. Country A has a comparative advantage in good X if the opportunity cost of producing a unit of X is lower in A than in B. With perfectly competitive markets, goods' prices equal their opportunity costs, so country A has a comparative advantage in good X if (Px/Py)A < (Px/Py)B. 9. a. Country A is labor abundant if in autarky (w/r)A < (w/r)B. b. Country A is labor abundant if LA/KA > LB/KB. 10. Assuming identical tastes and technologies, each country will exhibit a comparative advantage in the good that uses the country's abundant factor intensively and, under unrestricted trade, will specialize in and export that good. 11. a. True; this is another way of saying that tastes affect the pattern of comparative advantage under increasing costs but not under constant costs. b. False; the concept of comparative advantage is just an application of the idea of opportunity cost. c. Uncertain; true under increasing costs, but false under constant costs. 14. The (absolute value of the) slope of the production possibilities frontier measures the opportunity cost of the good measured on the horizontal axis. When the production possibilities frontier is concave, this value increases as one moves to the right, producing more of that good. Therefore, the concave shape of the frontier reflects the fact that the good's opportunity cost rises with the level of production. 15. Firms will export if the price they can obtain for their goods exceeds the price they can obtain in the domestic market (that is, the autarky price in the potential exporting country). Consumers will purchase imports if the price at which they can buy imports is below the price at which they can buy the domestically produced good (that is, the autarky price in the potential importing country). Trade will occur when both these conditions are satisfied, or when the international terms of trade lie between the two countries' autarky price ratios. ...
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This note was uploaded on 10/21/2011 for the course ECON 300 taught by Professor Gang during the Spring '06 term at Rutgers.
- Spring '06