Test Bank For International Economics Dean Appleyard 9 Edition

CHAPTER 4

EXTENSIONS AND TESTS OF THE CLASSICAL MODEL774 OF TRADE

A. Essay Questions

1. In the monetized Classical model, if trade is not balanced, the international terms of trade will deteriorate for the country with the trade deficit. Explain why this is so.

Answer: If for some reason the terms of trade do not produce balanced trade, then gold will move to the country with an export surplus and away from the country with a trade deficit. When this occurs, the price-specie flow mechanism will cause prices (and wages) in the surplus country to rise and prices (and wages) in the deficit country to fall. The equilibrium terms of trade are realized by adjustments in the relative wage rates because of the movement of gold between the two countries.

Difficulty: 01 Easy

Topic: The Classical Model in Money Terms

AACSB: Reflective Thinking

Blooms: Remember

Learning Objective: 04-01

1. In the basic Classical model, only the limits to the international terms of trade can be specified. If the two country-two commodity model is monetized using an exchange rate and a wage rate for each country, the international terms of trade are implicitly specified. Explain why this is so.

Answer: The assignment of a wage rate to each country and the specification of an exchange rate allows the value of all goods to be stated in terms of either currency. As a result, the international commodity terms of trade are uniquely specified.

Difficulty: 01 Easy

Topic: The Classical Model in Money Terms

AACSB: Reflective Thinking

Blooms: Remember

Learning Objective: 04-01

3. In a two-country Classical model of trade with many commodities, briefly explain what would happen to the structure of trade in each of the following cases:

(a) an increase in wages in one country;

(b) a change in the exchange rate;

(c) an improvement in productivity (lowering of the labor requirements/product) in one

country; and

(d) an increase in transportation costs.

Answer: Each exogenous change potentially shifts the pattern of trade in favor of the country whose competitiveness is enhanced. In the case of transportation costs, goods can become “nontraded.”

Difficulty: 03 Hard

Topic: Multiple Commodities

Topic: Transportation Costs

AACSB: Analytical Thinking

Blooms: Analyze

Learning Objective: 04-03

Learning Objective: 04-04

1. In a five country-two commodity Classical model of trade, where the autarky price ratios in all five countries are different, can you conclude a priori that all five countries will desire to trade? Why or why not? Between which of the five countries is trade certain? What will determine which of the remaining countries will trade?

Answer: Introducing multiple countries into the analysis results in an ambiguity in the trade pattern for all but the end-of-spectrum countries until the ultimate equilibrium terms of trade are specified. Little can be said about the trade pattern of a middle country beyond noting the international terms of trade at which it would not gain from trade and the pattern of trade that would emerge if the world price ratio is less than or greater than its own autarkic price ratio.

Difficulty: 02 Medium

Topic: Multiple Countries

AACSB: Reflective Thinking

Blooms: Understand

Learning Objective: 04-05

1. It is common to read statements to the effect that domestic inflation or production cost increases hinder our ability to export and also stimulate imports. Is this consistent with the Classical view of international trade? What effects would such an event have on the overall economy according to Classical thinking?

Answer: The pattern of trade will shift if a country’s cost advantage is eroded by inflation or production cost increases. According to classical theory, a deficit country loses gold, sees its money supply contract, and experiences declines in wages and prices.

Difficulty: 01 Easy

Topic: Multiple Commodities

AACSB: Reflective Thinking

Blooms: Remember

Learning Objective: 04-03