ANSWERS MIDTERM ECO 41 FALL 2009 UDAYAN ROY
NAME: _______________________________
Unless otherwise specified, each correct answer is worth one point. Although the
total value of all questions is 64, the maximum score is 60 points. Do not look at
anyone else’s answers and do not let anyone else see your answers. Please ask the
teacher if you do not understand a question. You have 80 minutes. Good luck!
Basic Theory
1. For a certain good, the autarky price is lower than the world price. Then, under free trade
a.
b.
c.
d.
this country will export the good.
this country will import the good.
this country will neither export nor import the good (even when trade is allowed).
Additional information is needed about demand to determine whether the country will be
an exporter of the good, an importer of the good, or neither.
2. If, in our analysis of international trade, if we assume that a country is "small", we are in effect
assuming that the country
a.
b.
c.
d.
is too small to experience significant gains or losses from its trade with other countries
does not have a significant comparative advantage over other countries.
is such that events within that country do not affect world prices of traded goods
has fewer than 10 million people
3. If autarky ends and free trade begins, there will be an increase in the nation’s
a.
b.
c.
d.
Consumer surplus.
Producer surplus.
Both (a) and (b).
Either (a) or (b) but not both.
4. The ____ the difference between the free trade (relative) price and a country’s autarky
(relative) price, the ____ will be the country’s gains from trade.
a.
b.
c.
d.
smaller; bigger
smaller; smaller
bigger; smaller
either (a) or (b) or (c) could be true, depending on the situation.
5. Consider a “small” country under free trade. An increase in the worldwide free-trade price of
this country’s _____ good will ____ its national welfare (as measured by its total surplus).
a.
b.
c.
d.
e.
imported; increase
imported; decrease
exported; increase
exported; decrease
both (b) and (c) are correct
6. Compared to a world with free international trade, a world without free trade would have
a. more innovation, because each country would have to rely on its own innovative skill
rather than on innovations made by foreigners
b. less innovation, because innovators, seeing that they would be able to sell their products
of their inventions only to people in their own countries rather than to the whole world,
would have less incentive to innovate
c. just as much innovation because innovation is fundamentally based on scientific progress,
which is not influenced by economic incentives
d. more innovation, because, although Country A would not import the goods made by
innovators in Country B, it would be able to simply copy those innovations and produce
them domestically
Consumption Tax and Trade
Suppose the market for wheat in Tanzania, a “small” country, is represented by the diagram
below. The worldwide price of wheat is $15 per unit, as shown. Use this diagram to answer
questions 7 – 15.
Price
Supply
A
20
B
C
E
F
D
World Price 15
Demand
10
25
40
Quantity
7. Assume that there is free trade and that the government is currently not using any taxes or
subsidies. Tanzania will:
a. export wheat
b. import wheat
c. export 40 units of wheat and import 10 units of wheat
d. neither export nor import any wheat
8. Assume that there is free international trade. However, the government has just imposed a $5
per unit tax on consumers of wheat. Tanzania will now:
a. export wheat
b. import wheat
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c. export 40 units of wheat and import 10 units of wheat
d. neither export nor import any wheat
9. Continuing with the previous question, one can see that the consumption tax
a. Reduces the total surplus by C
b. Reduces the total surplus by F
c. Increases the total surplus by C
d. Increases the total surplus by F
e. None of the above
10. This analysis of the consumption tax and trade shows that
a. The government can use a consumption tax to increase trade. This also increases national
welfare (or, total surplus) because more trade means more national welfare.
b. The government can use a consumption tax to decrease trade. This reduces national
welfare (or, total surplus) because less trade means less national welfare.
c. The government can use a consumption tax to increase trade. But such artificially created
trade actually reduces national welfare.
d. The government can use a consumption tax to decrease trade. This increases national
welfare (or, total surplus).
Production Subsidy
11. (2 points) Suppose the market for wheat in Tanzania, a “small” country, is represented by the
diagram above. The worldwide price of wheat is $15, as shown, and the Tanzanian government
allows free international trade. It also gives a $5 per unit production subsidy to Tanzanian
producers of wheat. In Tanzania, the price that wheat buyers will now pay is $15___ and the
(subsidy-included) price that wheat sellers will now receive is $20___.
12. (2 points) Continuing with the previous question, Tanzanians will now produce _40_ units of
wheat and consume _25___ units of wheat.
13. (2 points) Continuing with the previous question, the production subsidy of $5 will make
consumer surplus go from _ABC_ to _ ABC __. (Use combinations of the labels A through H to
answer this question.)
14. (2 points) Continuing with the previous question, the production subsidy of $5 will make
producer surplus go from _EF__ to _ BCDEF_. (Use combinations of the labels A through H to
answer this question.)
15. This analysis of the production subsidy and trade, shows that
a. free trade is no worse than autarky with or without a production subsidy
b. free trade is worse than autarky with or without a production subsidy
c. free trade is no worse than autarky when there is no production subsidy but may be worse
when there is a production subsidy
d. free trade may be worse than autarky when there is no production subsidy but may be
better when there is a production subsidy
Tariffs
Use the diagram below to answer questions 16 – 22.
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16. (2 points) Under free trade, the quantity of steel imported is __24_. When a $4 per unit tariff
is imposed on imported steel, the quantity of steel imported is __14_.
17. When a $4 per unit tariff is imposed on imported steel, consumer surplus:
a.
b.
c.
d.
e.
Increases by AB
Decreases by AB
Increases by CDEF
Decreases by CDEF
Remains unchanged
18. When a $4 per unit tariff is imposed on imported steel, producer surplus:
a.
b.
c.
d.
e.
Increases by C
Decreases by C
Increases by CD
Increases by CDEF
Remains unchanged
19. (2 points) When a $4 per unit tariff is imposed on imported steel, the government’s revenue
from the tariff is $56__. This amount can also be indicated by the area __E___. (Enter any
combination of the letters A through G in the second blank.)
20. When a $4 per unit tariff is imposed on imported steel, its deadweight loss is represented by
the areas _DF_. (Enter any combination of the letters A through G. If you think a tariff does not
have any deadweight loss, please enter 0 as your answer.)
21. Let us compare two policies: (a) a $4 per unit tariff on imported steel, and (b) the
simultaneous use of a $4 per unit consumption tax on domestic buyers of steel and a $4 per unit
production subsidy to domestic producers of steel. The quantity of steel consumed domestically is
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___ under policy (a), the quantity of steel produced domestically is ___ under policy (a), and the
quantity of steel imported is ________ under policy (a).
a.
b.
c.
d.
e.
Higher; Lower; Higher
Lower; Higher; Lower
The two policies have identical effects
Higher; Higher; Higher
Lower; Lower; Lower
22. A tariff ________ a production subsidy for the import-competing industry because, while
both can help the import-competing industry, _____ needlessly imposes additional burdens on
domestic consumers.
a.
b.
c.
d.
Is superior to; the subsidy.
Is inferior to; the tariff.
Is just as good as; neither the tariff nor the subsidy.
Is inferior to; the subsidy.
23. (2 points) The so-called terms of trade argument
a. supports the use of tariffs on imported goods. It says that a tariff imposed by Country A
would reduce domestic—and worldwide—demand for the imported good, thereby
reducing its worldwide price. This improvement in Country A’s terms of trade would add
to its total surplus
b. applies only to “large” countries
c. supports the use of tariffs on imported goods. However, the gains of the country imposing
the tariffs are exceeded by the losses of the countries it trades with.
d. supports the use of tariffs on imported goods. However, the argument assumes that if
Country A imposes tariffs on its imported goods, other countries would not retaliate with
tariffs on goods exported by Country A.
e. all of the above answers are correct
f. opposes the use of tariffs on imported goods. So, none of the above answers correct.
Ricardian Theory
Table 24
America
Brazil
Hours Needed to Make One Unit of:
Food
Cloth
30
10
4
2
Table 24 describes the production technologies in America and Brazil.
24. (2 points) America has a comparative advantage in the production of ____ and Brazil has a
comparative advantage in the production of ____. America will export ______ and Brazil will
export ______.
a.
b.
c.
d.
Food; Cloth; Food; Cloth
Cloth; Food; Cloth; Food
Food; Cloth; Cloth; Food
Cloth; Food; Food; Cloth
5
25. (2 points) Let w denotes the wage rate, and pF and pC denote the prices of food and cloth,
respectively, in each country’s currency. Using the data in Table 24, calculate the autarky value
of w/pF in Brazil. _0.25 units of food_
26. (2 points) Calculate the autarky value of pF/pC in America. __3 units of cloth___
If autarky ends and free trade begins, how will the variables listed in the first column of Table
3 be affected? Write increase or no change or decrease or ambiguous in the blanks provided.
Table 3
Food production
pF/pC
w/pF
w/pC
America
27. _ decrease _
Brazil
28. _ increase_
29. _ increase_
30. _ no change_
Heckscher-Ohlin Theory
31. Consider a world in which the assumptions of the Heckscher-Ohlin theory are true. Suppose
there are two countries, Australia (A) and Brazil (B), and two resources, capital (K) and labor (L),
that are used to produce two goods, cloth (C) and food (F). The amounts of K and L that A and B
are endowed with are given in the following table.
Table 31: Resource Endowments
Capital (K)
Labor (L)
Australia 100 machines 50 workers
Brazil
10 machines 20 workers
Which of the following is true?
a.
b.
c.
d.
e.
Australia is capital abundant and Brazil is labor abundant
Australia is labor abundant and Brazil is capital abundant
Australia is capital intensive and Brazil is labor intensive
Australia is labor intensive and Brazil is capital intensive
Australia has more of both resources. So, Australia is both capital abundant and labor
abundant
32. Continuing with the previous question, suppose that on a particular day you visit several cloth
factories in Australia and several food factories, also in Australia. You find that all cloth factories
are using 1 unit of capital per worker and that all food factories are using 3 units of capital per
worker.
a. This means that cloth is the labor-intensive good and food is the capital-intensive good
b. This means that cloth is the capital-intensive good and food is the labor-intensive good
c. The technology used in production need not be the same in the two countries. Therefore,
although the capital per worker ratio is higher for food production in Australia, in Brazil
it could instead be higher for cloth production. So, under Heckscher-Ohlin assumptions,
you cannot tell which good is capital-intensive and which good is labor-intensive by
looking at just one country.
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d. Under Heckscher-Ohlin assumptions, both countries have the same technology. So, if in
Australia the capital per worker ratio is higher in food production (compared to cloth
production), then the same must be true in Brazil as well. Therefore, if cloth is labor
intensive in Australia, then it must be labor intensive in Brazil too.
e. Both (a) and (d) are correct
33. (2 points) Let us assume that the facts mentioned in the two previous questions are true. That
is, resource endowments are as in Table 31 and that on a particular day all cloth factories were
seen to be using 1 unit of capital per worker and all food factories were seen using 3 units of
capital per worker. Then, according to the Heckscher-Ohlin theory, under free trade
a.
b.
c.
d.
e.
f.
g.
h.
Australia, the capital-abundant country, will export food, the capital-intensive good
Australia, the capital-abundant country, will export food, the labor-intensive good
Australia, the labor-abundant country, will export food, the capital-intensive good
Australia, the labor-abundant country, will export food, the labor-intensive good
Australia, the capital-abundant country, will export cloth, the capital-intensive good
Australia, the capital-abundant country, will export cloth, the labor-intensive good
Australia, the labor-abundant country, will export cloth, the capital-intensive good
Australia, the labor-abundant country, will export cloth, the labor-intensive good
34. In Australia the wage (w) is 10 Australian dollars (AUD) per hour, and the price of food (PF)
is 2 AUD per pound. Then the real wage in units of food — defined as the amount of food that
could be bought with one hour's wage — is calculated
a.
b.
c.
d.
by the formula w×PF and is equal to 20 pounds of food
by the formula w/PF and is equal to 5 pounds of food
by the formula w + PF and is equal to 12 pounds of food
by the formula w - PF and is equal to 8 pounds of food
35. (2 points) Consider a world in which the assumptions of the Heckscher-Ohlin theory are true.
Suppose there are two countries, Australia and Brazil, and two resources, capital and labor.
Suppose that capital and labor are used to produce two goods, cloth and food. Suppose Australia
is the capital-abundant country and Brazil is the labor-abundant country. In autarky,
a. the real wage in units of food will be higher in Australia, and the real wage in units of
cloth will be higher in Brazil, if food is the labor intensive good
b. the real wage in units of food will be higher in Australia, and the real wage in units of
cloth will be higher in Brazil, if cloth is the labor intensive good
c. both real wages will be higher in Australia
d. both real wages will be higher in Brazil
e. the real wage in units of food will be the same in both Australia and Brazil, as will the
real wage in units of cloth
36. Continuing with the previous question, in free trade,
a. the real wage in units of food will be higher in Australia, and the real wage in units of
cloth will be higher in Brazil, if food is the labor intensive good
b. the real wage in units of food will be higher in Australia, and the real wage in units of
cloth will be higher in Brazil, if cloth is the labor intensive good
c. both real wages will be higher in Australia
d. both real wages will be higher in Brazil
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e. the real wage in units of food will be the same in both Australia and Brazil, as will the
real wage in units of cloth
37. (2 points) Suppose Australia is the capital-abundant country and Brazil is the laborabundant country. Suppose that food is the capital-intensive good and cloth is the laborintensive good. Let the relative price of cloth in units of food be defined as the amount of food
that can be exchanged, at market prices, for one unit of cloth. (For example, if, in Brazil, the price
of a yard of cloth is 10 reals and the price of a pound of food is 5 reals, then the relative price of
cloth is 2 pounds of food.) When autarky ends and free trade begins, this relative price of food
will
a.
b.
c.
d.
e.
increase in Brazil and decrease in Australia
decrease in Brazil and increase in Australia
increase in both Brazil and Australia
decrease in both Brazil and Australia
stay unchanged in both Brazil and Australia
38. (2 points) Continuing with the previous question,
a. in each country, the abundant resource benefits from free trade and the scarce resource
loses. Therefore, in Australia, workers will be opposed to free trade and capital-owners
will be in favor of free trade.
b. in each country, the abundant resource loses from free trade and the scarce resource
benefits. Therefore, in Australia, capital-owners will be opposed to free trade and
workers will be in favor of free trade.
c. In each country, free trade will be opposed by both workers and capital-owners
d. In each country, free trade will be embraced by both workers and capital-owners
39. Continuing with the previous question, as a tariff on imports reverses the effects of free trade,
one can guess that
a. in each country, the abundant resource benefits from tariffs and the scarce resource loses.
Therefore, in Australia, workers will be opposed to tariffs and capital-owners will be in
favor of tariffs.
b. in each country, the abundant resource loses from tariffs and the scarce resource benefits.
Therefore, in Australia, capital-owners will be opposed to tariffs and workers will be in
favor of tariffs.
c. In each country, tariffs will be opposed by both workers and capital-owners
d. In each country, tariffs will be embraced by both workers and capital-owners
40. (2 points) The Factor Price Equalization Theorem says that
a. When there is free trade in goods, the nominal wage of a unit of (standardized) labor, w, will
become the same in all countries, as will the nominal rental of a unit of (standardized) capital,
r. (Assume that all nominal prices are converted to the same currency unit using market
exchange rates.)
b. When there is free trade in goods, the wage of a unit of (standardized) labor in units of, say,
good X, w/px, will become the same in all countries, as will r/px, the analogous price of
capital.
c. When there is free trade in goods, the wage of a unit of (standardized) labor in units of, say,
good X, w/px, will become the same in all countries, as will r/px, the analogous price of
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capital, if the free trade in goods is accompanied by the free movement of labor and capital
across countries.
d. The wage of a unit of (standardized) labor in units of, say, good X, w/px, will become the
same in all countries, as will r/px, the analogous price of capital, only if there is free
movement of labor and capital across countries. This will be true whether or not there is free
trade in goods.
41. If the conditions of the Factor Price Equalization Theorem are satisfied, free trade in goods
will make the standard of living of every human being the same. This statement is:
a. True.
b. False, because free trade equalizes nominal factor prices, not real factor prices, which is what
the standard of living depends on.
c. False, because, although free trade equalizes real factor prices and although each human
being is endowed with the same amount of labor, all human beings are not endowed with the
same amount of capital. Therefore, real incomes can vary from person to person.
d. False, because, although free trade equalizes real factor prices, all human beings are not
endowed with the same amounts of labor and capital. Therefore, real incomes can vary from
person to person.
Immigration
42. Assume that the assumptions of the Heckscher-Ohlin theory are satisfied and that trade in
goods is restricted whereas international migration of labor is unrestricted. If there is immigration
from Mexico to the US, the US as a whole (not counting the Mexican immigrants) would be ____
off and Mexico as a whole (including the migrants) would be _____.
a.
b.
c.
d.
Better; worse.
Worse; worse.
Better; better.
Worse; better.
43. Continuing with the previous question, the owners of capital in the US would be ____ off and
the owners of capital in Mexico would be _____.
a.
b.
c.
d.
Better; worse.
Worse; worse.
Better; better.
Worse; better.
44. Let us compare immigration and outsourcing. In the case of immigration, a worker travels
from, say, Mexico City in Mexico to Waukesha in Wisconsin to work for General Electric. In the
case of outsourcing, the worker stays in Mexico City and does some work for General Electric
which he then sends to Waukesha by email. Suppose the US government is required by its laws to
provide free public education and emergency health care to all residents (including immigrants)
but is not required to give any financial assistance to outsourcing-industry workers in foreign
countries.
a. US citizens will benefit from both immigration and outsourcing
b. US citizens will benefit from immigration but not necessarily from outsourcing
c. US citizens will benefit from outsourcing but not necessarily from immigration
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d. US citizens will not benefit from either immigration or outsourcing
45. The immigration of unskilled workers (who do mostly manual work) will ____ the wages of
native unskilled workers and ____ the wages of native skilled workers (such as doctors). This will
lead to ____ income inequality.
a.
b.
c.
d.
Raise; reduce; lower
Reduce; raise; higher
Reduce; reduce; unchanged
Reduce; raise; lower
46. The immigration of skilled workers (such as engineers, doctors, and scientists) will lead to
a. Less inequality (in the host country)
b. A stronger government budget (because skilled immigrants contribute more in taxes than
they receive in government benefits)
c. less cultural conflict (between natives and immigrants)
d. All of the above
e. None of the above; the immigration of unskilled workers will lead to (a), (b), and (c).
47. (3 points) Abraham Lincoln once said that if Americans buy a British coat, Americans keep
the coat and the British get the money, whereas if Americans buy an American coat, they keep
the coat and the money. Therefore, buying British coats is a bad idea.
Is this a good argument against international trade? Explain.
This is not a good argument against international trade. Sure, if Americans buy an American coat,
they keep the coat and the money. But they will also have to make the coat themselves. If
Americans buy a British coat, Americans keep the coat and the British get the money: true. But it
is the British, not the Americans, who will have to do the work needed to make the coat. The time
saved by Americans by importing the British coat instead of making it themselves can be used to
make something else that may be more valuable than the cost of the coat, or to enjoy some time at
the beach.
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ANSWER SHEET MIDTERM ECO 41 FALL 2009 UDAYAN ROY
NAME: ____________________________________________
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47. (3 points)
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