International Trade and Capital Flows

Question 1

GDP

Answer 1

• the market value of all new G/S produced within a country/economy in a given per
• by domestic factors of production
• as long as it is produced within the country, it does not matter who produced the G/S
• ie it includes foreigners within the country

Question 2

GNP

Answer 2

• the market value of all new G/S produced during a per
• factors of production are supplied by the residents of the country, irrespective of where they are located
• it excludes G/S produced by foreigners within the country
• it includes those produced by citizens residing out of the country

Question 3

Terms of trade

1.1 increase to 1.3 means

Answer 3

= price of exports / price of imports

1. 1 to 1.3 means the terms of trade have improved
   - ie the P of exports increased v the P of imports

Question 4

Absolute advantage:

Answer 4

the ability of a country over another country to produce a good at a lower cost or use fewer resources

Question 5

Comparative advantage:

Answer 5

• the ability to produce a good at a lower opportunity cost compared to another country
• we are calculating the opportunity cost
• the factor being compared goes in the denominator

Question 6

Output per worker/day
Machinery Cloth
UK 4 8

INDIA 2 16

who has the absolute advantage of making machinery
who has the comparative advantage of making machinery

Answer 6

absolute advantage
- is the UK since it can make 4 v 2 INDIA

comparative advantage of machinery

• ie does who has the lower opportunity cost for producing machinery
• the factor being compared goes in the denominator

UK: 8 cloth / 4 machinery = 2; “the op cost of machinery is 2 units of cloth”
INDIA: 16 cloth / 2 machinery = 8; “India gives up one unit of machinery to make 8 units of cloth

Answer: the UK has a comparative advantage of producing machinery since its op cost is lower than that in INDIA (2 v 8)

Question 7

As per the Heckscher-Ohlin model, when countries open up trade,

Answer 7

• the abundant factor gains relative to the scarce factor in each country

Question 8

If India exports (to UK) at a price higher than the domestic price and closer to the UK price, then

Answer 8

• then India’s gain from trade are more

Question 9

Ricardian Model key points

Answer 9

• labor is the only variable factor of production
• labor is the key source of comparative advantage
• differences in technology cause labor productivity differences per countries

Question 10

Heckscher-Ohlin Model key points

Answer 10

• labor and capital are assumed

- assumes technology in each industry is the same among countries, but varies between industries

Question 11

Tariffs cause:

Answer 11

• a welfare loss (deadweight loss)
• increase in domestic production
• increase in producer surplus
• increase in govt revenue
• consumer surplus decrease because of increased price

Question 12

Compared to a tariff, the profit from a quota is earned by,

Answer 12

• by the exporter

- there is a larger deadweight loss with a quota than a tariff

Question 13

Regional Trade Blocs

Answer 13

1. free trade area
2. customs union
3. common market
4. economic union
5. monetary union

each builds on the previous RTB

Question 14

Free trade area

Answer 14

• no trade restrictions with members
• each country maintains its own policies against non-members

ie NAFTA

Question 15

Customs Union

Answer 15

• in addition to free movement of G/S among themselves
• have common trade policies against non-members

ie Belgium, Netherlands, and Luxembourg

Question 16

Common Market

Answer 16

• in addition to custom union
• includes free movement of labor and capital (factors of production) among member countries

ie people in Brz can go to work in Paragu

Question 17

Economic Union

Answer 17

• a common market, plus:
• requires common economic institutions and economic policies (monetary and fiscal) among members

ie the European Union with 28 member countries

Question 18

Monetary Union

Answer 18

• when members in an economic union adopt a single common currency

ie the Euro Zone

Question 19

Balance of Payments (BOP) accounts

receipts and payments are

Answer 19

• receipts are credit items (decrease in assets, increase in liabilities
• payments are debit items (increase in assets, decrease in liabilities)

Question 20

BOP is composed of:

Answer 20

• current account (CA) - measures the flow of G/S
• capital account (KA) - measures transfer of capital
• financial account (FA) - records investment flows

Question 21

The current account consists of which accounts

Answer 21

CA - 4 sub-accounts which measure the flow of G/S

1. merchandise trade (net exports)
2. services: tourism, transportation, engineering, busincess services, legal, consulting, FEES RELATED TO PATENTS,
3. income receipts: income from ownership of assets. ie dividends and interest payments and income from foreign investments
4. unilateral transfers of assets: one-way transfer of assets. ie foreign aid

Question 22

The capital account consists of which accounts

Answer 22

KA: K is for capital - measures capital transfers
2 sub-accounts

1. capital transfers: debt forgiveness, migrant transfers, gift and inheritance taxes
2. sale and purchases of non-produced, non-financial assets. ie rights to natural resources and SALE AND PURCHASE OF INTANGIBLE ASSETS (PATENTS, COPYRIGHTS)
   ie selling gas exploration rights

Question 23

The financial account consists of which accounts

Answer 23

FA: 2 sub-accounts and measures investment flows
1. financial assets abroad: include gold, foreign currencies, foreign securities, their reserve in the IMF, and direct foreign investment
2. foreign-owned financial assets in the domestic country
ie borrow $100m euro from a German bank

Question 24

Current account equation

Answer 24

CA = (x - m) = Y - (C + I + G)

Question 25

CA surplus is where

Answer 25

• the country exports more than it imports
• produces more than it spends
• lends more to other countries than it borrows

CA > 0

Question 26

CA deficit is where

Answer 26

• the country imports more than it exports
• spends more than it produces
• borrows more than lends
• CA < 0

Question 27

CA surplus results from the following:

Answer 27

• high private savings (low consumption)
• low private investment
• government surplus

Question 28

What is the impact on the CA for the following:

• higher consumption
• higher govt spending
• higher investments

Answer 28

higher consumption

• means savings are low
• low savings imply a low CA or deficit

higher govt spending
- implies low CA or deficit

higher investment
- implies low CA or deficit

Question 29

IMF responsibilities:

Answer 29

primary:
- ensure the stability of
- the international monetary system
- the system of exchange rts
- and international payments from country to country
secondary
- facilitate growth of int. trade, employment, economic growth, and poverty reduction

• will provide financial assistance to member countries
• monitors global, regional, and country economies
• offers macroecon policies training

Question 30

World Bank responsibilities:

Answer 30

Primary

• fight poverty
• enhance environmentally sound economic growth

finances projects through IBRD and IDA

IBRD - international bank for reconstruction and development

• fund comes from selling AAA rated bonds
• capital reserves from the bank’s member countries
• income generated pays the World Bank’s operating expenses

IDA - international development association
- world’s largest source of interest-free loans and grants to the poorest countries

Question 31

World Trade Organization (WTO) responsibilities

Answer 31

• to regulate cross border trade relationships among nations on a global scale
• negotiate: lower customs tariffs, remove trade barriers
• settle disputes
• build skills and infra. needed to boost a country’s trade
• ensure transparency of trade policies