Chapter 10

Question 1

True or False:

New trade theories came as a subtitute for HO theorm

Answer 1

False

They are complementary trade theories, which base a great deal of international trade on economies of scale, imperfect
competition, and differences in the development and spread of new technologies over time among nations

Question 2

Why is there a call for new trade theories

Answer 2

because of the Diffrences in technological changes over time among nations

Question 3

What type of trade does the HO theory does not explain

Answer 3

Trade based on Increasing return to scale

One of the assumptions of the H-O model was that both commodities were produced under conditions of constant returns to scale in the two nations

Question 3

Economies of Scale and International Trade:

How can mutually beneficial trade take place even when the two nations are identical in every respect

Answer 3

With increasing returns to scale mutual beneficial trade can still take place

Question 4

Definition of Increasing returns to scale:

Answer 4

Refers to the production situation where output grows relatively more than the increase in inputs or factors of production

if all inputs are doubled, output is more than doubled

Question 5

Economies of Scale and International Trade

Increasing returns to scale may occur because

Answer 5

1. At a larger scale of operation a greater specialization becomes possible.
2. A larger scale of operation may permit the introduction of more specialized and productive machinery that would not be feasible at a smaller scale of
   operation

Question 6

Give the assumptions of :

Economies of Scale and International Trade

Answer 6

1. There are two nations (N1,N2) two commodities (X,Y)
2. The two nations are assumed to be identical in every respect
   * Tastes are equal in both nations
   * Both nations have the same amount of resources
   * Both nations use the same technology in production
3. Increasing returns to scale result in production frontiers that are convex from the origin

Question 7

Economies of Scale and International Trade

Where is the PPF at the no-trade equilibrium (Autarky equilibrium)?

Answer 7

PPF tangent to highest indifference curve.

Question 8

Economies of Scale and International Trade

With no trade Equilibrium points are ____ in both nations.

(Autarky equilibrium)

Answer 8

Same

Question 9

With identical production frontiers and indifference maps, the no-trade equilibrium relative commodity prices in the two nations are

Answer 9

Identical

This is PX/PY = PA in both nations and is given by the slope of the common
tangent to the production frontier and indifference curve I at point A. (point A is the no-trade equlibrium point and PA is the tangent line)

Question 10

Economies of Scale and International Trade

With trade what happens to the production of the each commodity in Nation 1

Answer 10

Nation 1 specialize completely in the production of commodity X and produce at point B

Point B is a point on the same PPF before trade but it is further down to the right (indicating that nation 1 specializes in the production of commodity X)

Question 11

Economies of Scale and International Trade

With trade what happens to the production of the each commodity in Nation 2

Answer 11

Nation 2 would then specialize completely in the production of commodity Y and produce at point B′.

The point b’ is on the same indiffrence curve but to the extreme left at the intersection with the Y-axis

Question 12

Economies of Scale and International Trade

With trade, how each nation would end up
consuming at point E

point E is on indifference curve II

Answer 12

By exchanging 60X for 60Y with each other

Question 13

Economies of Scale and International Trade

What are the gains from trade when the two nations exchanges 60X to 60Y

Answer 13

gains 20X and 20Y

Question 14

Economies of Scale and International Trade

In the absence of trade, why the two nations would not specialize in the production of only one commodity

Answer 14

Since each nation wants to consume both commodities. And hence cannot benefit from economies of scale.

Question 15

Economies of Scale and International Trade

The matter of complete indifference which of the two nations specializes in production of commodity X or commodity Y may result from

Answer 15

Historical acident

it doesn’t matter which nation specializes in the production of a specific commodity, whether it is commodity X or commodity Y

Question 16

According to Economies of Scale and international Trade:

The two nations need not be identical in every respect for

Answer 16

Mutually beneficial trade to result from increasing returns to scale

Question 17

What happens if economies of scale persist over a long range of outputs in a given market?

Answer 17

If economies of scale persist over a sufficiently long range of outputs, one or a few firms in the nation will capture the entire market for a given product, leading to monopoly or oligopoly.

Question 18

What happens if economies of scale persist over a long range of outputs in a given market?

Answer 18

If economies of scale persist over a sufficiently long range of outputs, one or a few firms in the nation will capture the entire market for a given product, leading to monopoly or oligopoly.

Question 19

Why economies of scale or increasing returns to scale must also be clearly distinguished from external economies.

Answer 19

Economies of scale are internal to the firm and result in cost reductions as the firm’s output increases. External economies, on the other hand, refer to the reduction in each firm’s average cost of production curve as the entire industry output expands, due to factors external to the firm.

Question 20

What are the factors that contribute to intra-industry trade?

Answer 20

Intra-industry trade is facilitated by the presence of differentiated goods and economies of scale. Differentiated goods allow for specialization and the production of unique products, while economies of scale enable firms to achieve cost advantages and compete in international markets with their differentiated products.

Question 21

How does the presence of product differentiation impact international trade?

Answer 21

Product differentiation leads to a type of trade known as intra-industry trade. Intra-industry trade refers to the exchange of differentiated products between countries, where both imports and exports of similar goods occur. This type of trade is not accounted for in classical and neoclassical trade theories, which assume homogeneous goods.

Question 22

What is the characteristic of the output in modern economies today?

Answer 22

A large portion of the output in modern economies involves differentiated products rather than homogeneous products.

Question 23

What does intra-industry trade refer to?

Answer 23

Intra-industry trade refers to the exchange of differentiated products within the same industry or broad product group. It involves the trade of similar goods rather than completely different products.

Question 24

What is the difference between intra-industry trade and inter-industry trade?

Answer 24

Intra-industry trade involves the exchange of differentiated products within the same industry, while inter-industry trade refers to the trade of completely different products between different industries.

Question 25

Is intra-industry trade more common than inter-industry trade in modern economies?

Answer 25

Yes, a significant portion of international trade involves intra-industry trade in differentiated products. This means that countries are trading similar goods within the same industry rather than trading completely different products.

Question 26

What is the difference between trade based on product differentiation and inter-industry trade?

Answer 26

Trade based on product differentiation involves the exchange of differentiated products within the same industry, while inter-industry trade involves the trade of completely different products between different industries.

Question 27

What are the two assumptions that are dropped in trade based on product differentiation?

Answer 27

The two assumptions that are dropped in trade based on product differentiation are perfect competition and constant economies of scale.

Question 28

How does trade based on product differentiation differ from the predictions of the H-O model?

Answer 28

Trade based on product differentiation deviates from the predictions of the H-O (Heckscher-Ohlin) model, which assumes inter-industry trade involving completely different products. In trade based on product differentiation, industries with differentiated products have their own characteristics and trade patterns.

Question 29

What is the role of unit costs in intra-industry trade?

Answer 29

Keeping unit costs low is crucial in intra-industry trade.

Question 30

How does international competition affect the production of varieties and styles?

Answer 30

International competition forces each firm or plant in industrial countries to produce only one, or at most a few, varieties and styles of the same product instead of many different varieties and styles

Question 31

How does specialization in production contribute to lower costs?

Answer 31

With few varieties and styles, more specialized and faster machinery can be developed, allowing for continuous operation and longer production runs, which helps lower costs.

Question 32

What is the role of imports in intra-industry trade?

Answer 32

Intra-industry trade involves nations importing varieties and styles of the product that they do not produce domestically.

Question 33

What are the benefits of intra-industry trade for consumers?

Answer 33

Intra-industry trade benefits consumers by providing a wider range of choices and a greater variety of differentiated products at lower prices.

Question 34

What are the factors that explain intra-industry trade?

Answer 34

Intra-industry trade is explained based on economies of scale in production and the presence of differentiated products.

Question 35

How does the size and factor proportions of economies influence trade based on comparative advantage?

Answer 35

Trade based on comparative advantage is likely to be larger when there are greater differences in factor endowments among nations.

Question 36

In what context is intra-industry trade likely to be larger?

Answer 36

Intra-industry trade is likely to be larger among industrial economies of similar size and factor proportions (when factors of production are broadly defined).

Question 37

According to the theory of intra-industry trade, how does the production of differentiated products under economies of scale affect the accuracy of pre-trade relative commodity prices in predicting the pattern of trade?

Answer 37

With differentiated products produced under economies of scale, pre-trade relative commodity prices may no longer accurately predict the pattern of trade.

Question 38

Why may a smaller country be able to undersell a larger country in the same commodity, despite the larger country having lower production costs in the absence of trade?

Answer 38

With trade and the ability to take advantage of economies of scale, all countries can benefit to the same extent, allowing the smaller country to potentially undersell the larger nation in the same commodity.

Question 39

What gives rise to intra-industry trade?

Answer 39

Economies of scale in differentiated products

Question 40

what determines the pattern of inter-industry trade?

Answer 40

Comparative advantage

Question 41

In which scenario is inter-industry trade more important?

Answer 41

When there are more dissimilar factor endowments, such as between developed and developing countries.

Question 42

In which scenario is intra-industry trade likely to be dominant?

Answer 42

When there are more similar factor endowments broadly defined, such as among developed countries.

Question 43

According to Lancaster (1980), what role does comparative advantage play in intra-industry trade?

Answer 43

Comparative advantage is somewhere in the background, even in the case of intra-industry trade.

Question 44

How does inter-industry trade differ from intra-industry trade in terms of comparative advantage?

Answer 44

Inter-industry trade reflects natural comparative advantage, while intra-industry trade reflects acquired comparative advantage.

Question 45

What is the basis for trade in the H-O model (inter-industry trade)?

Answer 45

Trade in the H-O model is based on comparative advantage or differences in factor endowments among nations.

Question 46

Is intra-industry trade larger among countries with similar or dissimilar factor endowments?

Answer 46

Intra-industry trade is larger among countries with similar factor endowments (as among developed countries).

Question 47

Is inter-industry trade larger among countries with similar or dissimilar factor endowments?

Answer 47

Inter-industry trade is larger among countries with dissimilar factor endowments (as between developed and developing countries).

Question 48

According to the H-O model, does trade lower the return of a nation’s scarce factor?

Answer 48

Yes, according to the H-O model, trade is predicted to lower the return of a nation’s scarce factor.

Oppositely with intra-industry trade, it is possible for all factors to gain

Question 49

What is the relationship between intra-industry trade and outsourcing/offshoring?

Answer 49

Intra-industry trade is related to the increase in international trade in parts and components through outsourcing and offshoring.

Question 50

What is outsourcing?

Answer 50

Outsourcing refers to the purchase by a firm of parts and components abroad to reduce costs

Question 51

What is offshoring?

Answer 51

Offshoring refers to a firm producing some of the parts and components used in its products in its own plants abroad.

Question 52

How is the level of intra-industry trade measured?

Answer 52

The level of intra-industry trade can be measured using the intra-industry trade index (T).

Question 53

What do X and M represent in the calculation of the intra-industry trade index?

Answer 53

X represents the value of exports of a particular industry or commodity group, while M represents the value of imports.

Question 54

What is the range of values for the intra-industry trade index?

Answer 54

The value of the intra-industry trade index (T) ranges from 0 to 1.

Question 55

What does a value of T = 0 indicate?

Answer 55

A value of T = 0 indicates that a country only exports or only imports the good in question, meaning there is no intra-industry trade.

Question 56

What does a value of T = 1 indicate?

Answer 56

A value of T = 1 indicates that the exports and imports of a good are equal, representing maximum intra-industry trade.

Question 57

How is the level of intra-industry trade determined based on the value of T?

Answer 57

The higher the value of T, the higher the level of intra-industry trade.

Question 58

What is a serious shortcoming of using the index T to measure the degree of intra-industry trade?

Answer 58

The index T can yield different values depending on how broadly the industry or product group is defined.

Question 59

How does the definition of an industry affect the value of T?

Answer 59

The more broadly an industry is defined, the higher the value of T will be.

Question 60

Why does broadening the industry definition lead to a higher value of T?

Answer 60

Broadening the industry definition increases the likelihood of a country exporting some varieties of the differentiated product and importing others

Question 61

How should the T index be used?

Answer 61

The T index should be used with caution. It can be useful for measuring differences in intra-industry trade across industries and changes in intra-industry trade over time within the same industry.

Question 62

What is the market organization called when there are many firms selling a differentiated product and entry into or exit from the industry is easy?

Answer 62

Monopolistic competition.

Question 63

What does the demand curve (D) represent for a firm in a monopolistic competition market?

Answer 63

The demand curve represents the demand faced by the firm for the differentiated products it sells.

Question 64

How would you describe the elasticity of demand in a monopolistic competition market?

Answer 64

The demand curve faced by the firm is fairly elastic, meaning that a small price change leads to a large change in the firm’s sales.

Question 65

What is the relationship between the firm’s average cost curve (AC) and its output in a monopolistic competition market?

Answer 65

The firm’s average cost curve (AC) is downward sloping, meaning that it declines as output increases.

Question 66

How does the firm’s marginal cost curve (MC) compare to the average cost curve (AC) in a monopolistic competition market?

Answer 66

The firm’s marginal cost curve (MC) is below the average cost curve (AC).

Question 67

Why is the firm’s marginal cost curve (MC) below the average cost curve (AC) in a monopolistic competition market?

Answer 67

The marginal cost curve (MC) must be smaller than the average cost curve (AC) for the average cost to decline as output increases.

Question 68

At what point does the firm achieve its best level of output in the monopolistic competition market?

Answer 68

The firm achieves its best level of output at point E, where the marginal revenue (MR) and marginal cost (MC) curves intersect.

Question 69

What happens if the firm produces at a level of output smaller than 3 units?

Answer 69

At a smaller level of output, the firm’s marginal revenue (MR) exceeds marginal cost (MC), indicating that it is beneficial for the firm to expand output

Question 70

What happens if the firm produces at a level of output greater than 3 units?

Answer 70

At an output greater than 3 units, the firm’s marginal revenue (MR) is less than marginal cost (MC), indicating that it is beneficial for the firm to reduce output.

Question 71

What is the optimal level of output for the firm in the monopolistic competition market?

Answer 71

The optimal level of output for the firm is 3 units.

Question 72

What is the relationship between the demand curve (D) and the average cost curve (AC) for the firm in the long run?

Answer 72

In the long run, the demand curve facing the firm (D) is tangent to its average cost curve (AC), resulting in a price (P) equal to the average cost ($4) at the optimal output level (Q = 3).

Question 73

How does the firm perform in terms of profits in the long run?

Answer 73

The firm breaks even in the long run, earning only a normal return on investment.

Question 74

How does the similarity of factor endowments and technology among nations affect the importance of inter-industry trade?

Answer 74

The more similar nations are in factor endowments and technology, the smaller is the importance of inter-industry trade.

Question 75

How does intra-industry trade affect the predictability of trade patterns based on pretrade-relative commodity prices?

Answer 75

With intra-industry trade, pretrade-relative commodity prices may no longer accurately predict the pattern of trade.

Question 76

What is intra-industry trade related to in terms of international trade?

Answer 76

Intra-industry trade is related to the sharp increase in international trade in parts and components of a product.

Question 77

What types of countries are more likely to engage in intra-industry trade?

Answer 77

Intra-industry trade arises more between nations with similar tastes and income levels.

Question 78

Which type of trade dominates between developed and developing countries?

Answer 78

While most of the trade between developed and developing countries is inter-industry trade.

Question 79

What is the trend of intra-industry trade among industrial countries?

Answer 79

An increasing proportion of the trade among industrial countries is intra-industry trade.

Question 80

What role does technology play in trade based on dynamic technological differences?

Answer 80

Dynamic changes in technology among nations can influence patterns of international trade.

Question 81

What does the Imitation Lag Hypothesis in the context of international trade?

Answer 81

The Imitation Lag Hypothesis suggests that the introduction of a new product from one country to another is delayed due to two types of lags: imitation lag and demand lag.

Question 82

How does the labor skill requirement change throughout the product cycle?

Answer 82

Initially, when a new product is introduced, it typically requires highly skilled labor for production. However, as the product matures and becomes standardized, it can be produced using mass production techniques and less skilled labor.

Question 83

What happens to the comparative advantage in the product according to the Product Cycle Model?

Answer 83

In the Product Cycle Model, the comparative advantage in the product shifts from the advanced nation that originally introduced it to less advanced nations with relatively cheaper labor. This transition occurs as the product becomes standardized and suitable for mass production.

Question 84

What is the relationship between foreign direct investments and the Product Cycle Model?

Answer 84

The Product Cycle Model suggests that foreign direct investments may accompany the shift in production to nations with cheaper labor. The innovating nation may invest in production facilities in these nations to take advantage of the lower labor costs.

Question 85

What is the main prediction of the Product Cycle Model regarding trade patterns?

Answer 85

The Product Cycle Model predicts that highly industrialized economies will export non-standardized products embodying new and advanced technologies, while importing products embodying older or less advanced technologies.

Question 86

How does the Product Cycle Model relate to changes in relative factor abundance among nations?

Answer 86

According to the Product Cycle Model, trade patterns are influenced by changes in relative factor abundance, including changes in technology, among nations over time.

Question 87

Is the Product Cycle Model considered an alternative to the Heckscher-Ohlin (H-O) model?

Answer 87

No, the Product Cycle Model is not considered an alternative to the H-O model. Instead, it can be seen as an extension of the H-O model into a technologically dynamic world, incorporating changes in technology and relative factor abundance.

Question 88

How do less developed nations gain a comparative advantage in the Product Cycle Model?

Answer 88

In the Product Cycle Model, less developed nations gain a comparative advantage through imitation and product standardization, which allows them to utilize their relatively cheaper labor and compete in the production of standardized goods.

Question 89

What is the main difference between the product cycle model and the basic Heckscher-Ohlin (H-O) model in terms of comparative advantage?

Answer 89

The product cycle model focuses on dynamic comparative advantage for new products and production processes, whereas the basic Heckscher-Ohlin (H-O) model explains static comparative advantage.

Question 90

What is the first stage of the product cycle model?

Answer 90

The first stage of the product cycle model is the new-product phase, where the product is produced and consumed only in the innovating country.

Question 91

What is the second stage of the product cycle model?

Answer 91

The second stage of the product cycle model is the product-growth phase. During this stage, production is perfected in the innovating country and experiences rapid growth to meet increasing demand domestically and internationally. At this stage, there is no foreign production of the product, giving the innovating country a monopoly in both the domestic and export markets.

Question 92

What happens in the third stage of the product cycle model?

Answer 92

The third stage of the product cycle model is the product-maturity phase. During this stage, the product becomes standardized, and the innovating firm may choose to license other domestic and foreign firms to produce the product. As a result, the imitating country starts manufacturing the product for its domestic consumption. This marks the beginning of production by imitating firms in other countries.

Question 93

What happens in the fourth stage of the product cycle model?

Answer 93

The fourth stage of the product cycle model is characterized by the imitating country underselling the innovating country in third markets. As the product becomes standardized and no longer requires specialized development and engineering skills, the imitating country benefits from lower labor and production costs. This allows them to offer the product at a lower price, leading to a decline in production of the product in the innovating country. During this stage, competition shifts from brand competition to price competition.

Question 94

What happens in the fifth stage of the product cycle model?

Answer 94

In the fifth stage of the product cycle model, the imitating country begins to undersell the innovating country even in the innovating country’s own market. As a result, production of the product in the innovating country experiences a rapid decline or even collapse. This stage is often referred to as the product-decline stage.

Question 95

What are stages IV and V of the product cycle model often referred to as?

Answer 95

Stages IV and V of the product cycle model are often referred to as the product-decline stage.

Question 96

According to the product cycle model, what happens to the innovating country as the product reaches the end of its life cycle?

Answer 96

As the product reaches the end of its life cycle, the innovating country shifts its attention to new technological innovations and the introduction of new products.