Question

The figure below describes the effects of trade on the employers and the workers in the US and China. The initial size of each economy is normalized to one. The US has the comparative advantage in the capital-intensive goods, while China has the comparative advantage in the labour-intensive goods. As a result of trade the US’s economy is assumed to grow by 30% and that of China by 40%.

Based on this information, which of the following statements is correct?

Group of answer choices

The US has the stronger bargaining power in the determination of the relative price after trade.

In the US, the employers are better off while the workers are worse off as a result of trade.

Specialization means that China will produce all the capital-intensive goods.

In China, the workers are better off while the employers are worse off as a result of trade.

(B)

Which of the following statements about the moral hazard problem is correct?

Group of answer choices

Banks that are ‘too big to fail’ are careful not to make risky loans.

Lenders can reduce the moral hazard problem by requiring borrowers to provide equity or collateral, which only richer people are able to do.

The moral hazard problem is due to the completeness of contract in economic interaction.

Banks are described as ‘too big to fail’ when their large size makes them safe institutions

Answer 1

1. Option B

In the US, the employers are better off while the workers are worse off as a result of trade.

Comparative advantage is an economic term that refers to an economy's ability to produce goods and services at a lower opportunity cost than that of trade partners. A comparative advantage gives a company the ability to sell goods and services at a lower price than its competitors and realize stronger sales margins.The United States’ comparative advantage is in specialized, capital-intensive labor. American workers produce sophisticated goods or investment opportunities at lower opportunity costs. Specializing and trading along these lines benefit each.

2. Option B Lenders can reduce the moral hazard problem by requiring borrowers to provide equity or collateral, which only richer people are able to do.

Moral hazard occurs after the transaction. The lender runs the risk that the borrower will undertake activities that are undesirable from the lender's perspective because they reduce chances of the loan being repaid. For example once the borrower has obtained a loan, he may take on huge risks (which have high possible returns but also run a greater risk of default) because he is playing with someone else's money. As a result, the lenders may decide not to make the loan.

Collateral, property pledged for the repayment of a loan, is a good way to reduce moral hazard. Borrowers don't take kindly to losing, say, their homes. Also, the more equity they have—in their home or business or investment portfolio—the harder they will fight to keep from losing it.