SSII 2010, 160A Midterm
Professor Farshid Mojaver
Name:_____________
There are 136 points in the exam. Please answer all the questions in the space provided
I-General Questions (in this section answer the questions in plain English. No graphs are needed here.)
1) [4 pts] How can a developed country compete against some low foreign wage industries?
2) [4 pts] Why is the PPF a straight line in the Ricardian model and bowed out in Hecksher-Ohlin model?
3) [8 pts] Consider a massive influx of foreign capital to a small open economy like Vietnam. Discuss the impact
(a) sectoral production and (b) factor prices.
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4) [20 pts] Economic Consultant in Poorestan
Poorestan is a poor country with income per capita and poor natural resources. At the present Poorestan lives in
isolation and does not trade with any country. Policy makers in Poorestan are debating whether they should open
up to international trade but they are several concerns and questions and they turn to you for advice.
a) Make an argument in support of international trade. Why trade is “good’ for Poorestan.
b)
Policy makers in Poorsetan wonder if there is anything that they can export because they have no
technological advantage in any sector. How would you address this concern?
c) Make some educated guess as the type of goods Poorestan can export once it opens up to free trade?
d) Who wins and who loses in Poorestan (in the short run and in the long run) when she opens up to
international trade. [8 pts]
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II-Question on the Ricardian Model of Trade
1) [21 pts] Answer the following questions given the information in the following table.
Unit Labor Requirements
Malaysia
Indonesia
Shirts
20
20
Cameras
10
40
a) Which country has absolute advantage in shirt production and why? What about camera production?
b) In absence of trade, what is the opportunity cost of Shirts (in terms of Cameras) in Indonesia and Malaysia?
c) For which product does Indonesia have comparative advantage?
d) What is the relative domestic price of Shirts in each country before trade?
e) Suppose there are 200 units of labor in Malaysia and 400 in Indonesia. Draw a graph showing production
possibility frontier of Malaysia and Indonesia. Have Shirt production of the horizontal axis and Camera on the
Vertical axis.
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f) If world price of shirts to cameras were 1 what would be the world production of Camera and Shirts? Which
country would produce each?
g) Use a hypothetical indifference curve in a graph showing gains from trade for each country (when international
PS/PC =1).
2) [9 pts] Consider the following information about production in the United States and China
a. Which country has absolute advantage in apparel and why?
b. Which country has comparative advantage in apparel and why?
c. What will US export to China and why?
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III-Heckscher-Ohlin Model
1) [24 pts] Questions on HO theory
a) What constitutes the basis of trade in the HO theory of trade?
b) What is the prediction of HO theory regarding trade patterns?
c) Based on HO theory what would be the impact of free trade on the existing international wage gaps?
d) Has this prediction come true to any degree? Why international wage rates are still so different?
e) What does "Leontieff Paradox" refer to?
f) Did the Paradox ever get resolved? And if so how? What is the final verdict on the Leontief paradox and the
HO theory?
2) [10 pts] State and prove Solper-Samuelson Theorem
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IV-[16 pts] Sector-Specific Model
Suppose two countries, Canada and Mexico, produce two goods, timber and televisions.
Assume that land is specific to timber, capital is specific to televisions, and labor is free to move between the two
industries. When Canada and Mexico engage in free trade, the relative price of televisions falls in Canada and the
relative price of timber falls in Mexico.
a) In a graph, show how the wage changes in Canada because of a fall in the price of televisions, holding constant
the price of timber. Can we predict that change in the real wage?
b) What is the impact of opening trade on the rentals on capital and land in Canada?
Can we predict that change in the real rentals on capital and land?
c) What is the impact of opening trade on the rentals on capital and land in Mexico? Can we predict that change in
the real rentals on capital and land?
d) In each country, has the specific factor in the export industry gained or lost, and has the specific factor in the
import industry gained or lost?
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V-[20 points] Outsourcing (make your points using a mode with carefully stated assumptions and labeled graphs)
1) Show that all countries can gain from trade in intermediate goods (say components and R&D products).
2) Show that the observed increase in wage rates of skilled labor relative to that of unskilled labor in US and
China could be related to outsourcing. What is the alternative explanation? Which explanation has empirical
support?
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