1. Answers: (suggestions)
NEGB15 Internationell handelsteori
HT 2010 (Exam in Jan 2011)

2. FT shows this in Figures 7.2-7.5. Figure 1
1a.) Explain briefly how foreign outsourcing can explain the increase in the relative wage of nonproduction workers in Figure 1 (3p)
1b.) Is foreign outsourcing likely to have been the only reason for the increase in the relative wage of nonproduction workers? Explain why, or why not? (2p)
Answer a.) Think of a model where the activities of production can be ranked in skill intensity.
If the wage of unskilled workers as well as the relative wage for unskilled workers is lower in Foreign, a Home (US) firm will outsource the least skill-intensive activities to Foreign (locate production in Foreign countries or hire foreign producers do these tasks).
Outsourced actvities could be assembly and inputs, whereas R&D and Marketing are kept (the latter are more skill intensive).
Since the average skill-intensity of activities at home increases, the relative demand for skilled workers increase: for a given relative supply of skilled labor, the relative wage of skilled labor must increase.
Answer b.) Another important factor which has the same effect (increasing the relative demand for skilled labor is skilled-biased-technological change (increased computer use, for instance)
FT shows this in Figures
Figure 1

3. a b c d S D t Figure 2: The market for sugar in Home
2. Figure 2 shows the market for Sugar in Home. Assume that Home is small in world market. (5p)
a.) Suppose that the world market price is 20$/ton. At this world market price and with free trade, how large are Home’s imports of Sugar? (0.5p)
b.) Assume now that Home applies a tariff of 20$/ton. Calculate the following measures. (2p)
(i) The change in consumer surplus from the tariff
(ii) The change in producer surplus from the tariff
(iii) The change in government revenues from the tariff
(iv) The change in overall welfare from the tariff
Figure 2: The market for sugar in Home
a = 20x20 + (20x20)/2=$600
b = (20x20)/2 = $200
c = 20x20 =$400
d = (20x20)/2=$200
Answer b.)
(i) Change in consumer surplus = -(a+b+c+d)= - $1400
(ii) Change in producer surplus = a= $600
(iii) Change in government revenue
= c= $400
(iv) Change in overall welfare = -(b+d) = - $400
Imports=20 ton with tariff
Home price, $ D S 70 60 50 40
World market price + tariff: a t c 30 b d
World market price: 20 10 10 20 30 40 50 60 70 80 90
100
Q (tons)
Answer a.) Imports=60 ton at world market price

4. S D c a d b t e a = 10x20 + (10x10)/2=$250 b = (10x10)/2 = $50
c.) Drop the assumption of Home being a small country and now assume that Home is large country. Assume that when Home applies the tariff of 20$/ton, the world market price drops to 10$/ton.
(i) Calculate the change in Home’s overall welfare (going from free trade to the tariff on imports). (1p)
(ii) Explain your result in (i). (1.5p)
a = 10x20 + (10x10)/2=$250
b = (10x10)/2 = $50
c = 10x40 =$400
d = (10x10)/2=$50
e= 10x40 =$400
Answer c.)
(i) Change in consumer surplus = -(a+b+c+d)= - $750
(ii) Change in producer surplus = a= $250
(iii) Change in government revenue
= c+e= $400+ $400
(iv) Change in overall welfare =e -(b+d) = = 300
Figure 3: The market for sugar in Home
Imports=40 ton with tariff (and large country)
Home price, $ D S 70 60 50 40
New world market price + tariff (large country): 30 c a d t b 20
Old world market price: e 10
New world market price (large country): 10 20 30 40 50 60 70 80 90
100
Q (tons)
Intuition: The tariff lowers the world market price which is a terms of trade gain for Home and represented by the area e.
The terms of trade gain is larger than the sum of the production loss b (arising since production costs are larger than the world market price) and the consumption loss d (lost consumer surplus due to the higher home price):
e-(b+d)>0
Imports=40 ton at new world market price plus tariff (new domestic price)
Imports=60 ton at old world market price with free trade

5. 3a.) In the provisions of the GATT/WTO-agreement, explain briefly what is meant by:
(i) The ”Most-favored-nation-clause” (MFN) and
(i) A Safeguard provision (or an escape-clause).
MFN says that every country in the WTO must be” treated the same”. (page 273 FT)
If Sweden, Poland and Finland are WTO members, then, all else equal, if Sweden lowers its import tariffs on Finnish imports, Sweden must also lower its import tariffs against Poland.
The Safe-guard provision or “Escape-clause” of the WTO, states that a country can apply tariffs when imports threaten to have serious injury on domestic producers. (page 274 FT)
It must be import competition that threaten domestic jobs and production in a specific industry.
We have discussed how the steel tariff in the US in 2002 did not fit this criteria because it threatened jobs in all industries due to a appreciated dollar .

6. 3.b ) Why is the Heckscher-Ohlin model said to be a “long-run” model?
(i) Capital and labor move freely between sectors. This is “long run”.
(i) In the short run, as in the spec factors model, some factors are “stuck” in a sector.
Question 3.)
3.c ) Consider the Monopolistic Competition model with one good (Cars) and two countries (Home and Foreign). There are two types of gains to trade from opening up for trade in cars between Home and Foreign Briefly state and explain these two types of gains to trade.
Trade will increase the number of firms . However, total number of firm is less than the total number of firm in Home and Foreign under autarchy, thus there are exits of some firms and the firms who survive are larger. This means:
With more firms competing under trade, consumer prices decrease and average cost fall (since surviving firms are larger (creating a gain for consumers and an efficiency gain). This follows from P=AC.
With more firms competing under trade , there are are also more varieties for consumers to choose between (which is a consumer gain)

7. 3d. ) Consider the market for cars
3d.) Consider the market for cars. Assume that VOLVO is the only Swedish car producer in Sweden (SAAB has gone bankrupt!). VOLVO is small in the world market. The Swedish government wants to protect VOLVO in the Swedish home market from foreign import competition, but is concerned for the effect on Swedish consumers. The government chooses between an import tariff and a quota on imports. You are an advisor of the government and you are instructed to minimize the loss for consumers. Should you use a tariff or quota? Explain briefly why.
A tariff should be used.
The reason is that with the tariff the marginal revenue of the home monopolist is the world market price plus the tariff.
With the quata (or VER) you create market power for the home monopolist.
This benefits home firm and foreign firms, and make consumers more worse off because the price of cars is increased above the world market price plus the tariff (if the quota is set to create the same amounts of imports as the tariff).
We have discussed this with the Japananese VER on cars to the US in the 1980ies..
Figure 9.4 in Feenstra-Taylor can be used as reference.

8. 3.e ) Consider the Heckscher-Ohlin model in which there are two goods (Steel and Corn), two factors (capital and labor) and two countries (Home and Foreign). Steel are capital-intensive in production; Corn is labor-intensive in production. Home is capital-abundant; Foreign is labor abundant. Suppose that Home and Foreign trade freely with each other. What does the Stolper-Samuelsson theorem predict for the real earnings of capital and labor in Home if the relative price of Steel increases?
Applying the Stolper-samuelsson theorem, we have that:
In Home, capital gains and labor looses in terms of real earnings.
In the long-run, (when all factors are mobile), an increase in the relative price of Steel will increase the real earnings of capital (becuse capital is used intensily in steel production), and decrease the real earnings of of labor.
When the relative price of the good which make intensive use of the abundant factor increases, the abundant factor gains, while the scarce factor looses..

9. 4. Consider the Specific-factors model with two countries (Home and Foreign), two goods (Computers and Wheat) and three production factors (capital, land and labor). Assume that capital is specific to computer production and land specific to wheat production. Labor is the mobile factor and used in both computer and wheat production. (5p)
a. Draw a graph of the no-trade equilibrium in Home. Mark out the no-trade equilibrium with A. Use a diagram with Computers on the x-axis and Wheat on the y-axis. (1p)
b. Suppose that Home and Foreign start to trade. Assume that the relative price of Computers increases in Home. Draw a new diagram for Home where you show which good Home starts to export and which good Home starts to import. Indicate the size of exports and imports in your diagram. Draw your diagram with Computers on the x-axis and Wheat on the y-axis. (1p)
c. Show in your diagram from b. why there are overall gains to trade in Home. (1p)
d. Let RT be the return to land. Suppose that the increase in the relative price price of computers was caused by an increase in the price of computers PC, while the price of Wheat PW stayed constant. What happens to the rate of return to in Home, RT? Explain your result. (2p)

10. 4a. ) Draw a graph of the no-trade equilibrium in Home
4a.) Draw a graph of the no-trade equilibrium in Home. Mark out the no-trade equilibrium with A. Use a diagram with Computers on the x-axis and Wheat on the y-axis. (1p) A

11. C Imports of Wheat A B Exports of Comp
4b.) Suppose that Home and Foreign start to trade. Assume that the relative price of Computers increases in Home. Draw a new diagram for Home where you show which good Home starts to export and which good Home starts to import. Indicate the size of exports and imports in your diagram. Draw your diagram with Computers on the x-axis and Wheat on the y-axis. (1p)
(Exports of Wheat, Import of Computers) C
4c.) Show in your diagram from b. why there are overall gains to trade in Home. (1p)
(See U_2>U_1)
Imports of Wheat A B
Exports of Comp

12. 4d. ) Let RT be the return to land
4d.) Let RT be the return to land. Suppose that the increase in the relative price price of computers was caused by an increase in the price of computers PC, while the price of Wheat PW stayed constant. What happens to the rate of return to in Home, RT? Explain your result. (2p)