PROBLEMS AND APPLICATIONS

1. Italy represents a small part of the world apple market.

a. Draw a diagram depicting the equilibrium in the Italian apple market without international trade Identify the equilibrium price, equilibrium quantity, consumer surplus, and producer surplus b. Suppose that the world price of apples is above the Italian price before trade and now Italy is opened to trade. Identify the new equilibrium price, quantity consumed domestically, quantity
produced domestically, and quantity exported. Also show the change in the surplus of domestic consumers and producers. Has total surplus increased or decreased?

2. The world price of wine is below the price that would prevail in Canada in the absence of trade.

a. Assuming that Canadian imports of wine are a small part of total world wine production, draw  for the Canadian market for wine under free trade. Identify consumer surplus, producer surplus, and total surplus in an appropriate table.

b. Now suppose that an unusual shift of the Gulf Stream leads to an unseasonably cold summer in Europe, destroying much of the grape harvest there. What effect does this shock have on the world price of wine? Using your graph and table from part (a), show the effect on consumer surplus, producer surplus, and total surplus in Canada. Who are the winners and losers? Is Canada as a
whole better or worse off.

3. Suppose that Congress imposes a tariff on imported autos to protect the U.S. auto industry from foreign competition. Assuming that the United States is a price taker in the world auto market, show on a diagram: the change in the quantity of imports, the loss to U.S. consumers, the gain to U.S. manufacturers, government revenue, and the deadweight loss associated with the tariff. The loss to consumers can be decomposed into three pieces: a transfer to domestic producers, a transfer to the government, and a deadweight loss. Use your diagram to identify these three pieces.

4. ~ series of earthquakes and mudslides in Mexico destroy the avocado crop, raising the world price of
avocados.

a. Draw an appropriate diagram to analyze how this change affects consumer surplus, producer surplus and total surplus in a nation that imports avocados, such as Canada.

b. Now draw an appropriate diagram to analyze how this change affects consumer surplus, produces surplus, and total surplus in a nation that exports avocados, such as Honduras.

c. Compare your answers to parts (a) and (b). What are the similarities and what are the differences Which country should be concerned about these events in Mexico? Which country is made better off as a result of these earthquakes?
5. According to an article in The New York Times (Nov. 5, 1993), “many Midwest wheat farmers oppose the [North American] free trade agreement [NAFTA] as much as many corn farmers support it For simplicity, assume that the United States is a small  country in the markets for both com and wheat and that without the free trade agreement, the United States would not trade these commodities internationally. (Both of these assumptions are false, but they do not affect the qualitative responses to the following questions.)

a. Based on this report, do you think the world wheat price is above or below the US. no-trade wheat price? Do you think the world com price is above or below the US. no-trade com price? Now analyze the welfare consequences of NAFTA in both markets.

b. Considering both markets together, does NAFTA make US. farmers as a group better or worse off Does it make US. consumers as a group better or worse off? Does it make the United States as a whole better or worse off?

6. Imagine that winemakers in the state of Washington petitioned the state government to tax wines imported from California. They argue that this tax would both raise tax revenue for the state government and raise employment in the Washington State wine industry, Do you agree with these claims? Is it a good policy?

7. Senator Ernest once wrote that “consumers do not benefit from lower-priced imports. Glance through some mail-order catalogs and you’ll see that consumers pay exactly the same price for clothing whether it is US.-made or import.

8. The nation of Graphical does not allow imports or exports of food. In its equilibrium without trade, a bushel of grapes costs $5 and the equilibrium quantity is 1 million bushels. One day, after reading Adam Smith’s The Wealth of Nations while on vacation, the president decides to allow international trade in all industries. The world price of grapes is $8 per bushel. The amount of grapes consumed in falls to 300,000 bushels, while the amount produced grows to 1.5 million bushels.

a. Illustrate the situation just described in a graph. Your graph should show all the numbers.

b. Calculate the change in consumer surplus, producer surplus, and total surplus that results from opening up trade. (Hint: Recall that the area of a triangle is 112 X base X height.)

9. Consider a country that imports a good from abroad. For each of following statements, say whether it is true or false. Explain your answer.

a. The greater the elasticity of demand, the greater the gains from trade.

b. If demand is inelastic, there are no gains from trade.

c. If demand is inelastic, consumers do not benefit from trade.”

10. Assume the United States is an importer of cameras and, there are no trade restrictions. US. consumers buy 2 million cameras per year, of which 600,000 are produced domestically and 1.4 million are imported.

a. Suppose that a technological advance among Japanese camera manufacturers causes the world price of cameras to fall by $1″5. Draw a graph to show how this change affects the welfare of US. consumers and US. producers and how it affects total surplus in the United States.

b. After the fall in price, US. consumers buy 2.5 million cameras, of which 400,000 are produced domestically and 2.1 million are imported. Calculate the change in consumer surplus, producer surplus, and total surplus from the price reduction.

c. If the government responded by putting a $15 tariff on imported cameras, what would this do? Calculate the revenue that would be raised and the dead weight loss. Would it be a good policy from the stand point of US. welfare? Who might support this policy?

11. What trade disputes or trade agreements have been in the news lately? In these cases, who do you think are the winners and losers from free trade? Which group has more political clout? Note: Place to look for this information include the websites of the World Trade- Organization (http:/www.wto.org), the US. International Trade ‘Commission (htn>:/www.usitc.gov), and the International Trade Administration in the Department of Commerce (htm:/www.ita.doc .gov)

12. Consider a small country that exports steel. Suppose that a “pro-trade” government decides to subsidize the export of steel by paying a certain amount for each ton sold abroad. How does this export subsidy affect the domestic price of steel, the quantity of steel produced, the quantity of steel consumed, and the quantity of steel exported? How does it affect consumer surplus, producer surplus, government revenue, and total surplus? Is it a good policy from the standpoint of economic efficiency? (Hint: The analysis of an export subsidy is similar to the analysis of a tariff.

 

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