Question

1. Assume that there are two nations, Alpha and Beta. Each nation produces two products, wheat and steel. Alpha has a comparative advantage in the production of wheat. If the two nations trade, the trade price of wheat in terms of steel will be

a. less than the domestic opportunity cost of wheat in Alpha and greater than the domestic opportunity cost of wheat in Beta.

b. greater than the domestic opportunity cost of wheat in Alpha and less than the domestic opportunity cost of wheat in Beta.

c. greater than the domestic opportunity cost of wheat in both nations.

d. less than the domestic opportunity cost of wheat in both nations.

2. If the world price for good A is above the domestic price for good A without trade, then consumer surplus will ________ and total economic surplus will _______ with trade.

a. increase; increase

b. increase; decrease

c. decrease; increase

d. decrease; decrease

3. All else held equal, economists would prefer a tariff over an import quota because

a tariff allows the market to adjust import quantities if domestic supply, domestic demand, or world price changes.

a tariff enables the government to collect revenue, whereas an import quota does not.

domestic producers can charge higher prices with a tariff than with an import quota.

compared with an import quota, a tariff enables consumers to pay lower prices.

Answer 1

1. b. greater than the domestic opportunity cost of wheat in Alpha and less than the domestic opportunity cost of wheat in Beta.

Explanation: Alpha has a competitive advantage in wheat; this means Alpha will produce wheat and sell it to Beta. Alpha will accept the trade only when it receives more than its domestic opportunity cost of producing wheat. On the other hand, importing wheat from Alpha will be profitable for Beta only when the cost of import is less than the domestic opportunity cost of wheat in Beta.

2. a. increase; increase

Explanation: Total consumption will be higher due to the lower price, which will increase both consumer surplus and the total surplus.

3. a tariff allows the market to adjust import quantities if domestic supply, domestic demand, or world price changes.

Explanation: A tariff would still make the market forces work by adjusting demand on the basis of change in supply and price. A quota does not allow it.