Question

1. What are the benefits of international free trade? Do all parties gain if there is free trade between countries? Use the trade between the US and Mexico to explain your answer.
2. What is an exchange rate? What determines the exchange rate between the U.S. dollar and the Mexican peso? What would make the dollar depreciate?
3. What are Economies of Scale? Explain your answer.
4. In the long run, why do we expect that firms in perfect competition will earn zero economic profits?
5. How does a government maintain a fixed exchange rate? Outline one advantage and one    disadvantage of doing so.

Answer 1

1) if there is free trade between countries then there is no restrictions like tariff and quotas are involved which leads to economic surplus and no deadweightloss. but with free trade its not necessary that both the parties are in profit all the time. if any party is in loss then there will be no trade but some times bigger economies earn at the cost of underdeveloped economies.

2) an exchange rate is defined as the value of one countrys currency in terms of another countrys currency. the exchange rate between u.s dollar and mexican peso is determined by the relative price level in both the countries. if inflation in u.s increases that will make dollar to depriciate against peso.\

3)economies of scale is an proportionate saving in cost gained by an increased level of production. when an economic institution expands production of one particular product the fixed cost gets divided with every increase in output and when a firm byes more inputs from one place it has to pay less cost compared to buying less of it. this is how a company enjoys the economies of scale.

4)in the long run a firm in perfect competition earns zero economic profit because there is free exit and free entry of firms in the market. so if any firm earns more profit then other firms get attracted and enters the market so the profit gets divided and every firm comes back to normal profit.

5) a government maintains a fixed exchange rate by buying and selling its own currency in open market. government does that by making it illigal to trade currency at any other rate. one advantage of this is that due to fluctuation in world market the currency rate of the home currentry will not get affected much. one dis advantage is that government has to intervane in the market every time there is an excess demand of excess supply of currency due to any reason.