Economics 4413 International Trade Theory
Midterm Examination Two
Professor Maskus
November 13, 2002
I. (24 Points) State whether two (2) of the following propositions are true, false, or uncertain and explain the logic of
your answer.
a. In a short-run model with mobile labor and two sector-specific capital stocks, suppose that good Y is capitalintensive and good X is labor-intensive (with intensities defined in the long run). Then an increase in the labor
endowment will, in the short run, raise the output of good X and reduce the output of good Y.
b. Consider a small economy that has a monopoly in sector X in autarky, where both X and Y are produced
with constant returns to scale. When this economy enters into free trade with the rest of the world, it will
experience both a standard gain from trade and a pro-competitive gain from trade.
c. In a small open economy (that is, a small economy engaged in free trade) there is no difference between a
production tax on Y and a consumption tax on Y in terms of their impacts on outputs and trade.
II. (24 Points) Answer one (1) of the following questions.
a. Suppose that, starting from an initial long-run equilibrium, a small, capital-abundant economy imposes an
import tariff. Using diagrams, discuss the effects on real labor and capital incomes in both the short run and the
long run. For this purpose, suppose that good X is labor-intensive in the long run (so that the tariff is on good
X).
b. Write an essay defining and explaining the various sources of gains from trade when a good is produced with
internal increasing returns to scale.
c. Write an essay demonstrating first that an economy with a polluting industry can be made better off or worse
off by engaging in free trade. Then explain the framework within which trade economists analyze this question
(scale, composition, and technique effects) and indicate briefly what the empirical evidence suggests about how
trade affects the environment.
III. (12 Points) Answer this question.
Consider the following Ricardian model with constant labor productivities. Outputs per unit of labor are:
X
Y
H
6
9
F
3
2
Suppose that H has 40 units of labor and F has 100 units of labor.
1.
2.
Determine autarky price ratios (defined as p = px/py) in H and F and indicate which country has the
absolute advantage in each good and which country has the comparative advantage in each good.
Draw the associated PPFs for each nation, indicating the values of the endpoints. Suppose that each
country splits its labor force equally between X and Y in autarky and show the autarky equilibrium in H
and F. Now suppose the international price ratio is p* = 1 (where p is the relative price of good X) and
that 130 units of X are traded for 130 units of Y. Show the resulting free-trade equilibrium points and
calculate the gains from trade for each country.