Selected Answers10e

8/6/2019 Selected Answers10e

1/14

Answers to Selected Problems

Chapter 16. a. Consumer demand theory predicts

that when the price of a commodityrises (cet. par.), the quantity demanded

of the commodity declines.

b. Whenthe price ofimportsrises todomes-tic consumers, the quantity demandedof exports can be expected to decline (ifeverythingelse remains constant).

7. a. A government can reduce a budgetdeficit by reducing government expen-ditures and/or increasing taxes.

b. A nation can reduce or eliminate abalance-of-payments deficit by taxingimports and/or subsidizing exports, byborrowing more abroad or lendingless to other nations, and by reducingthe level of its national income.

10. International trade results in lower prices

for consumers but harms domestic pro-ducers of products which compete withimports. Often those domestic producersthat stand to lose a great deal from im-ports band together to pressure the gov-ernment to restrict imports.

Since consumers are many and unor-ganized and each individually stands tolose only very little from the import re-

strictions, governments often give in tothe demands of producers and impose

some import restrictions. These topics arediscussed in detail in Chapter 9.

Chapter 22. In case A, the United States has a

comparative advantage in wheat and theUnited Kingdom in cloth.

In case B, the United States has acomparative advantage in wheat and theUnited Kingdom in cloth.

In case C, the United States has a

comparative advantage in wheat and theUnited Kingdom in cloth.In case D, the United States and the

United Kingdom have a comparativeadvantage in neither commodity.

4. a. The United States gains 1C.

b. The United Kingdom gains 4C.

c. 3C < 4W < 8C.

d. The United States would gain 3C,while the United Kingdom wouldgain 2C.

10. IfDW(US + UK) intersected SW(US + UK) atPW/PC =

2/3 and 120W in the left panelof Figure 2.3, this would mean that theUnited States would not be specializingcompletely in the production of wheat.

The United Kingdom, on the otherhand, would be specializing completely

Ans-1Copyright 2010 John Wiley & Sons, Inc.


2/14

in the production of cloth and exchang-ing 20C for 30W with the UnitedStates. Since the United Kingdom trades

at the U.S. pretrade-relative commodityprice of PW/PC = 2/3, the UnitedKingdom receives all of the gains fromtrade.

Chapter 3

3. a. See Figure 3.1.

b. Nation 1 has a comparative advantagein X and Nation 2 in Y.

c. If the relative commodity price linehas equal slope in both nations.


b. Nation 1 gains by the amount bywhich point E is to the right andabove point A and Nation 2 by theexcess of E0 over A0. Nation 1 gainsmore from trade because the relativeprice with trade differs more from itspretrade price than for Nation 2.

7. See Figure 3.3.The small nation will move from A to

B in production and will export X in ex-change for Y so as to reach point E > A.

FIGURE 3.1

FIGURE 3.2

Ans-2 Answers to Selected Problems

Copyright 2010 John Wiley & Sons, Inc.


3/14

Chapter 46. a. See Figure 4.1.

b. The quantity of imports demanded byNation 1 at PF0 exceeds the quantity ofexports of Y supplied by Nation 2.Therefore, Px/Py declines (Py/Px rises)until the quantity demanded of importsof Y by Nation 1 equals the quantityof exports of Y supplied by Nation 2at PB= PB0.

c. The backward-bending (i.e., nega-tively sloped) segment of Nation 1s

offer curve indicates that Nation 1 iswilling to give up less of X for largeramounts of Y.

8. See Figure 4.2.From the left panel of Figure 4.4 in the

text, we see that Nation 2 does not exportany amount of commodity Yat Px/Py = 4,or Py/Px =

1/4. This gives point A onNation 2s supply curve of the exportsof commodity Y (S). From the left panelof Figure 4.4 in the text, we also see that at

Px/Py = 2 orPy/Px = , Nation 2 exports40Y. This gives point H on S. Otherpoints on S could similarly be derived.Note that S in Figure 4.2 is identical to Sin Figure 4.6 in the text, showing Nation1s exports of commodity X.

From the left panel of Figure 4.3 in thetext, we see that Nation 1 demands 60Yof

Nation 2s exports at Px/Py = Py/Px = 1.This gives point E on Nation 1sdemand curve of Nation 2s exports ofcommodity Y (D). From the left panel ofFigure 4.3 in the text, we can estimate thatNation 1 demands 40Y at Py/Px =

3/2(point R0 on D) and 120Y at Py/Px = 2(point H0 on D).

The equilibrium-relative commodityprice of commodity Yis Py/Px = 1. This isdetermined at the intersection of D and Sin Figure 4.2. At Py/Px =

3/2, there is an ex-cess of supply of R0R = 30Y, and Py/Pxfalls to Py/Px = 1. On the other hand, atPy/Px = , there is an excess demand ofHH0 = 80Y, and Py/Px rises to Py/Px = 1.Note also that Figure 4.2 is symmetrical

with Figure 4.6 in the text.

10. See Figure 4.3.In Figure 4.3, Nation 2 is the small

nation, and we magnified the portion ofthe offer curve of Nation 1 (the large na-tion) near the origin (where Nation 1soffer curve coincides with PA =

1/4, Na-tion 1s pretrade-relative commodity

price with trade). This means that Nation 2can import a sufficiently small quantity

FIGURE 3.3

FIGURE 4.1

Answers to Selected Problems Ans-3



4/14

of commodity X without perceptiblyaffecting Px/Py in Nation 1.

Thus, Nation 2 is a price taker and

captures all of the benefits from its tradewith Nation 1. The same would be true

even if Nation 2 were not a small nation,as long as Nation 1 faced constantopportunity costs and did not specialize

completely in the production of com-modity Xwith trade.

FIGURE 4.2

FIGURE 4.3




5/14

Chapter 54. See Figure 5.1.

7.See Figure 5.2.


b. Factor-intensity reversal could occur ifthe substitutability of K for L in theproduction of X were much greater

than for Y and r/w were lower inNation 2 than in Nation 1.

c. Minhas found factor-intensity reversalto be fairly frequent. However, by cor-recting an important source of bias inthe Minhas study, Leontief showedthat factor-intensity reversal was muchless frequent. Ball tested another aspect

of Minhass conclusion and confirmedLeontiefs results that factor-intensityreversal was rare in the real world.


6. See Figure 6.2.The ACand the MCcurves in Figure6.2 here are the same as in Figure 6.2 inFIGURE 5.1

FIGURE 5.2




6/14

Chapter 6. However, D and the corre-sponding MR curve are higher on theassumption that other firms have not yetimitated this firms product, reduced itsmarket share, or competed this firmsprofits away.

In Figure 6.2 here, MR= MCat pointE, so that the best level of output of the

firm is 5 units and price is $4.50. Since atQ = 5, AC = $3.00, the firm earns a

profit ofAB= $2.00 per unit and $10.00in total.

14. See Figure 6.3.


6. See Figure 7.2.9. See Figure 7.3.

FIGURE 5.3

FIGURE 6.1 FIGURE 6.2




7/14

Chapter 84.

g 0:4 0:50:4

1:0 0:5

0:4 0:2

0:5

0:2

0:5 40%

7. See Figure 8.1.

8. When Nation 1 (assumed to be a smallnation) imposes an import tariff on com-

modity Y, the real income of labor fallsand that of capital rises.

FIGURE 6.3

FIGURE 7.1

FIGURE 7.2

FIGURE 7.3




8/14

Chapter 9

2. The partial equilibrium effects of the im-port quota are: Px = $1.50; consumptionis 45X, of which 15X are produceddomestically; by auctioning off import li-censes, the revenue effect would be $15.

3. The partial equilibrium effects of theimport quota are Px = $2.50; consump-tion is 40X, of which 10X are produced

domestically; the revenue effect is $45.11. a. The monopolist should charge P1 =

$4 in the domestic market and P2 = $3in Figure 9.5 in Appendix A9.2.

b. This represents the best, or optimal,distribution of sales between the twomarkets because any other distributionof sales in the two markets gives less

revenue.

Chapter 101. If Nation A imposes a 100 percent ad va-

lorem tariff on imports of commodity Xfrom Nation B and Nation C, Nation Awill produce commodity X domestically

because the domestic price of commodity

X is $10, as compared with the tariff-inclusive price of $16 if Nation A im-ported commodity X from Nation B and$12 if Nation A imported commodity Xfrom Nation C.

2. a. If Nation A forms a customs unionwith Nation B, Nation A will importcommodity X from Nation B at theprice of $8 instead of producing ititself at $10 or importing it from

Nation C at the tariff-inclusive priceof $12.

b. When Nation A forms a customsunion with Nation B, this will be atrade-creating customs union becauseit replaces domestic production ofcommodity X at Px = $10 with tariff-free imports of commodity X from

Nation B at Px = $8.

3. If Nation A imposes a 50 percent ad val-orem tariff on imports of commodity Xfrom Nation B and Nation C, Nation Awill import commodity X from NationC at the tariff-inclusive price of $9 in-stead of producing commodity X itselfor importing it from Nation B at the

tariff-inclusive price of $12.

FIGURE 8.1




9/14

Chapter 116. a. The nations commodity terms of

trade would be 91.7.

b. The nations income terms of tradewould be 119.2.

c. The nations single factoral terms oftrade would be 128.4.

7. The nation of Problem 6 will be betteroff in 2000 as compared with 1980because its income and single factoral

terms of trade rose.8. Figure 7.6 in the text shows how deteri-

orating terms of trade resulting fromgrowth can make a nation worse off aftertrade than before. This was called immis-erizing growth in Chapter 7.

Chapter 127. The statement is true.

The profitability of a portfolio is equalto the weighted average of the yield of thesecurities included in the portfolio. There-fore, the profitability of a portfolio of manysecurities can never exceed the yield of thehighest-yield security in the portfolio.

The second part of the statement is alsotrue if the portfolio includes securities forwhich yields are inversely correlated overtime.

12. U.S. labor generally opposes U.S. invest-ments abroad because they reduce theK/Lratio and the productivity and wagesof labor in the United States.

13. An inflow of foreign capital leads to anincrease in the K/L ratio and in the pro-ductivity and wages of labor or employ-ment in developing nations.

Chapter 131. a. The United States debits its current

account by $500 (for the merchandise

imports) and credits capital by thesame amount (for the increase in for-eign assets in the United States).

b. The United States credits capital by $500(the drawing down of its bank balancesin London, a capital inflow) and debitscapital by an equal amount (to balancethe capital credit that the U.S. importerreceived when the U.K. exporter ac-cepted to be paid in three months).

c. The United States is left with a $500

debit in its current account and a netcredit balance of $500 in its capitalaccount.

6. The United States credits its capitalaccount by $400 (for the purchase of theU.S. treasury bills by the foreign resident)and debits its capital account (for thedrawing down of the foreign residents

bank balances in the United States) forthe same amount.

7. The United States debits its currentaccount by $40 for the interest paid,debits its capital account by $400 (for thecapital outflow for the repayment ofthe principal to the foreign investors bythe U.S. borrower), and then credits its

capital account by $440 (the increase inforeign holdings of U.S. assets, a credit).

Chapter 145. a. The pound is at a three-month for-

ward premium of 1 or 0.5% (or2%/year) with respect to the dollar.

b. The pound is at a three-month for-ward discount of 4 or 2% (or 8%/

year) with respect to the dollar.

9. The speculator can speculate in the for-ward exchange market by purchasingpounds forward for delivery in threemonths at FR = $2/1.

If the speculator is correct, he will

earn 5 per pound purchased.




10/14

11. The interest arbitrageur will earn 2% peryear from the purchase of foreign three-month treasury bills if he covers the for-

eign exchange risk.

Chapter 157. Md = 100/4 = 25 falls short of Ms = 30,

and there will be an outflow of interna-

tional reserves (a deficit in the nationsbalance of payments).

9. a. The condition for uncovered interestparity is given by ii* = EA, where EAis the expected appreciation of the euro.That is, since the spot rate of SR =$1.01/1 in three months is 1% (4%on an annual basis) higher than SR =

$1.00/

1 today, the condition for UIAis satisfied because 6% 10% = 4% (withall percentage rates expressed on an an-nual basis).

b. If the spot rate is expected to be SR=$1.02/1 in three months, the poundwould be expected to appreciate by2% for the three months (8% on anannual basis). Investors would nowearn more by investing in Frankfurtthan by investing in New York and thecondition for UIA would no longerbe satisfied. As more dollars are ex-changed for euros to increase invest-ments in London, the actual spot ratewill increase from SR= $12.00/1 toSR = $1.01/1. This will leave only

an expected appreciation of the euroof about 4% per year (the same as be-fore the change in expectations). Thisis obtained by comparing the newhigher spot rate of SR = $1.01/1today with the new expected spot rateofSR= $1.01/1 in three months, soas to return to UIA parity.

12. According to the portfolio balance ap-proach, an increase in the expected rate

of inflation in the nation would lead tothe expectation that the domestic cur-rency will depreciate and the foreign

currency will appreciate under flexibleexchange rates. In terms of the extendedportfolio balance model, this means thatthe expected appreciation of the foreigncurrency (EA) increases.

The rise in EA will lead to a reductionin the demand for money balances (M)and the domestic bond (D) and anincrease in the demand for the foreignbond (F) by domestic residents (seeEquations 15-10 to 15-12). This leads toa depreciation of the domestic currencyas domestic residents exchange the do-mestic for the foreign currency in orderto purchase the foreign bond and toother changes in all other variables of themodel until equilibrium is reestablished

in all the markets simultaneously.

Chapter 161. The nations demand curve for imports is

derived by the horizontal distance of the

nations supply curve from the nationsdemand curve of the tradeable commod-ity at each price below the equilibriumlevel of the tradeable commodity. SeeFigure 16.1.

2. The nations supply curve for exports is de-rived by the horizontal distance of the na-tions demand curve from the nations

supply curve of the tradeable commodity ateach price above the equilibrium level ofthe tradeable commodity. See Figure 16.2.

7. SM is infinitely elastic for a small nationbecause a small nation can demand anyquantity of imports without affecting itsprice; similarly, Dx is infinitely elasticbecause a small nation can sell any amo-

unt of its export good without having toreduce its price.




11/14

Chapter 175. a. SY MY 100 0:2Y 150

0:2Y 50 0:4Y

I X 100 350 450

50 0:4Y 450;therefore;

YE

400=0:4 1000:

b. See Figure 17.1.

6. See Figure 17.2.

9. a.

k00 =1

MPS1 MPM1 MPM2MPS1=MPS2

=

1

0:20 0:20 0:100:20=0:15

= 10:533

= 1:88

DYE = DXk00 = 2001:88 =376

DM= DYEMPM1 = 3760:20 = 75:2

DS= DYEMPS1 = 3760:20 = 75:2

DX=DS DM= 75:2 75:2=150:4;soDXDM= 75:2 = Nation 10s trade surplus

b.

k* =1 MPM2=MPS2

MPS1 MPM1 MPM2MPS1=MPS2

=

1 0:10=0:15

0:533 =

1:667

0:533 = 3:13

FIGURE 16.1

FIGURE 16.2

FIGURE 17.1

FIGURE 17.2




12/14

DYE= DIk* = 2003:13 = 6:26

DM= DYEMPM1 = 6260:20 = 125:2

DS=

DYEMPS16260:20 = 125:2

200 DX125:2 125:2 and DX= 50:4;

so DX DM = 50.4 125.2 = 74.8

Chapter 181. Point Changes in D Changes in R

C1 increase devalueC4 increase revalue

C7 decrease revalue

C10 decrease devalue

11. Starting from point E in Figure 18.1, thenation could use the fiscal policy thatshifts the IS curve to IS0, intersectingthe LM curve at point Z. Since point Zis now to the left of the BP curve, thenation will have a surplus in its balanceof payments. With flexible exchangerates, the nations currency appreciatesand so the BP curve shifts to the left.This induces a leftward shift in the IScurve to IS00 and a rightward shift in the

LM0 curve to LM0, such that curve IS00

and LM0 intersect on the BP curve atpoint E0. Since at point E0 the nation stillfaces unemployment, the nation would

need to apply additional doses of expan-sionary fiscal policy until all three marketsare in equilibrium at the full-employmentlevel of national income ofYF= 1500.

12. Point Fiscal Policy Monetary Policy

C3 expansionary easy

C6 contractionary easy

C9 contractionary tight

C12 expansionary tight

Chapter 195. An unexpected increase in prices in the

face of sticky wages means that real wagestemporarily fall. This leads firms to hire

more workers and thus increase output inthe short run. In the long run, however,money wages fully adjust to (i.e., increasein the same proportion as) the increase inprices. As a result, real wages return totheir previous higher level, firms reduceemployment to their original lower level,and the nations output returns to itslower long-run natural level, but at thenew higher price level.

6. Starting from point C in Figure 18.3, anunexpected decrease in aggregate demandfrom AD0 to AD causes prices to fall andfirms to temporarily reduce their output,giving the new short-run equilibriumpoint where the AD0 curve intersects theSRAS0 curve. In the long run, however,as expected prices fall to match actual pri-ces, the short-run aggregate supply curveshifts down by the amount of the price re-duction (i.e., from SRAS0 to SRAS) anddefines new long-run equilibrium point Eat the natural level of output YN, but atthe lower price level of PE.

Another way of saying this is that at

the point to the left of the LRAS curve,FIGURE 18.1




13/14

actual prices are lower than expected prices.Expected prices then fall and this shifts theSRAS curve downward until expected

prices are equal to the lower actual prices;the economy then returns to its long-runnatural level of output equilibrium.

12. Expansionary fiscal policy under fixedexchange rates or easy monetary policyunder flexible exchange rates can correcta recession but only at the expense ofhigher prices or inflation. If prices are

flexible downward in the nation, how-ever, the recession can be corrected auto-matically and in a relatively short time byfalling domestic prices, which wouldstimulate the domestic and foreigndemand for the nations goods and ser-vices. If domestic prices are sticky or nottoo flexible downward, however, relyingon market forces (i.e., falling prices in

the nation) to automatically correct therecession may take too long, and this may

justify the use of expansionary fiscal ormonetary policies.

Chapter 20

1. a. The United States will export thecommodity because at R = 2, P = $7in the United States and P = $8 inthe United Kingdom.

b. The United States has a comparativedisadvantage in this commodity at theequilibrium exchange rate.

2. Under a fixed exchange rate system andperfectly elastic internationalcapital flows,the attempt on the part of the nation toreduce its money supply (tight monetarypolicy) tends to increase interest rates inthe nation and attract capital inflows.

On the other hand, the attempt on thepart of the nations monetary authoritiesto increase the money supply of the na-

tion will be frustrated by the tendency of

the nations interest rate to fall, resultingin a capital outflow that would leave thenations money supply unchanged (see

Section 17.4c).6. An optimum currency area involves per-

manently fixed exchange rates as well ascommon monetary and fiscal policiesamong its members. Thus, an optimumcurrency area resembles a single economicentity and monetary union. There are nosuch implications for countries that are

connected only by fixed exchange rates.

Chapter 211. a. The primary goal of nations today is

internal balance, while during theheyday of the gold standard nationsgave priority to external balance. The

gold standard days were also character-ized by much greater price flexibilitythan today. Furthermore, London wasthen the undisputed center of inter-national trade and finance, and as aresult, there were no destabilizing inter-national capital flows as frequentlyoccur today between the different inter-national monetary centers.

b. The reestablishment of the gold stan-dard today would require the reestab-lishment of all the conditions that madefor its smooth operation from 1880 until1914. Nations would have to placepriority on external over internal bal-ance and give up their use of monetarypolicy. They would have to eliminatedomestic restrictions on price flexibility(i.e., abolish price ceilings, minimumwages, interest restrictions, etc.), and re-establish the supremacy of one interna-tional monetary center (New York orLondon) so as to avoid destabilizing ca-pital flows among the internationalmonetary centers in existence today.

Needless to say, this is impossible.




14/14

7. a. The nation could attempt to discou-rage large destabilizing internationalcapital flows by purchasing the foreign

currency forward to reduce the for-ward discount or increase the forwardpremium on the foreign currency.

b. The same is true today, except that to-day exchange rates can fluctuate muchmore than under the Bretton Woodssystem and capital moves much morefreely internationally than under the old

Bretton Woods system so that the pol-icy of intervening in the forward mar-ket is likely to be much less effective.

8. a. The nation could attempt to discour-age large destabilizing international cap-ital flows by purchasing the foreign

currency in the spot market. This tendsto appreciate the foreign currency anddiscourage international capital inflows.

b. The same is true today, except that to-day exchange rates can fluctuate muchmore than under the Bretton Woodssystem and capital moves much morefreely internationally than under the old

Bretton Woods system so that thepolicy of intervening in the spot marketis likely to be much less effective.



Date post:	07-Apr-2018
Category:	Documents
Upload:	adnan-shahid
View:	217 times
Download:	0 times

Selected Answers10e

Documents