Chapter 10: Trade

Question 1

What is comparative advantage?

Answer 1

When a country can produce a good at a lower opportunity cost than others, leading to gains from trade by specializing in that good.

Question 2

What does the domestic price represent?

Answer 2

The equilibrium price of a good within a country, where domestic demand equals domestic supply.

Question 3

What is the world price?

Answer 3

The price at which a good is traded internationally, representing the opportunity cost of production abroad.

Question 4

When should a country export a good?

Answer 4

When its domestic price is lower than the world price, indicating a comparative advantage.

Question 5

When should a country import a good?

Answer 5

When its domestic price is higher than the world price, indicating it does not have a comparative advantage.

Question 6

What is a “small economy” in international trade?

Answer 6

An economy too small to influence world prices, meaning it must accept the world price as a “price taker.”

Question 7

What happens to domestic prices in a small economy when trade is allowed?

Answer 7

Domestic prices adjust to equal world prices since buyers and sellers can trade at that price internationally.

Question 8

In an exporting country, who gains and who loses from trade?

Answer 8

Producers gain from higher prices on the world market, while consumers may pay more, reducing consumer surplus.

Question 9

In an importing country, who gains and who loses from trade?

Answer 9

Consumers gain from lower prices on the world market, while producers lose competitive advantage, reducing producer surplus.

Question 10

Does free trade increase or decrease total surplus in an economy?

Answer 10

Free trade increases total surplus by adding “gains from trade,” improving overall economic well-being.

Question 11

What is the effect of free trade on economic welfare?

Answer 11

It improves economic welfare by increasing total surplus, even though it creates winners and losers within the economy.

Question 12

What are trade restrictions?

Answer 12

Trade restrictions are government-imposed limits on the free exchange of goods between countries, primarily through tariffs and import quotas.

Question 13

What is a tariff?

Answer 13

A tariff is a tax imposed on imported goods, intended to raise domestic prices and protect domestic producers.

Question 14

What is an import quota?

Answer 14

An import quota is a limit on the quantity of a specific good that can be imported into a country.

Question 15

Who are the main winners and losers from trade?

Answer 15

Winners from trade are often many consumers who benefit from lower prices, while losers are usually a small group of businesses and employees affected by competition.

Question 16

What happens to prices when a tariff is applied?

Answer 16

Prices for consumers rise to the world price plus the tariff amount, reducing quantity demanded and increasing quantity supplied by domestic producers.

Question 17

What is deadweight loss?

Answer 17

Deadweight loss refers to the loss of economic efficiency that occurs when the equilibrium outcome is not achievable or not achieved, often caused by tariffs and quotas.

Question 18

What are the two sources of deadweight loss from tariffs?

Answer 18

1. Overproduction by higher-cost domestic producers instead of lower-cost foreign producers.
2. Preventing mutually beneficial trade due to higher prices for consumers.

Question 19

How do tariffs and quotas affect total surplus?

Answer 19

Both tariffs and quotas lower total surplus by raising domestic prices, reducing consumer surplus, and increasing producer surplus but creating inefficiencies.

Question 20

What is the “Trade and Jobs” argument?

Answer 20

This argument claims that trade destroys jobs in import-competing industries.

Question 21

How do economists respond to the “Trade and Jobs” argument?

Answer 21

Economists argue that job losses in import-competing industries are often offset by job gains in export industries, leading to overall job growth.

Question 22

What is the “National Security” argument regarding trade?

Answer 22

This argument suggests that industries vital to national security should be protected from foreign competition.

Question 23

How do economists respond to the “National Security” argument?

Answer 23

Economists contend that the importance of industries to national security is often exaggerated, and it’s difficult to determine which industries truly need protection.

Question 24

What is the “Infant-Industry” argument?

Answer 24

This argument posits that new industries require temporary protection from foreign competition to establish themselves.

Question 25

How do economists respond to the “Infant-Industry” argument?

Answer 25

They argue it’s challenging to predict which industries will succeed, and the costs of protecting them may outweigh the benefits.