IEP exam

Which elements can we see globalisation through?

1. Rise in trade flows

2. Convergence of international prices

3. Foreign Portfolio Investment

4. Foreign Direct Investment

5. Immigration + migrant labor

6. Offshoring/outsourcing

What were the exact changes in FDI during the second wave?

• 1914 - 7% of US GNP

• 1930 - 7% still

• 1960 - 6%

• 1996 - 20%

What were the exact numbers of US foreign born workers for the second wave?

• 1914 - 4%

• 2003 - 12%

• Now - 30%

Define absolute advantage

The country that is the most productive in all goods

Define comparative advantage

The country that has a comparative advantage is the country with the lowest opportunity cost for a good, which means that they give up less production of the other good

Define opportunity cost

The opportunity cost is the cost of choosing one option over the other

What do we need comparative and absolute advantage for?

1. Absolute advantage is good for incomes

2. Comparative advantage explains trade because the country will produce the product they have a lower opportunity cost for

What are some explanations for the improvements in Nigeria?

• macroeconomic recovery - in the region especially, like climate etc

• government programs to support farmers

• increase production of cassava - increased nutrition

• increase in literacy

what are the two conditions for the US-Canada Auto Pact of 1965?

• US side: minimum Canadian component to get the benefits

• Canada side: keep increasing employment

Why does IRS provide a reason for trade?

because there is an incentive to cluster production in one location and then export to where needed and wanted

Describe the 3 types of IRS

1. Internal / National - if you double the inputs, you more than double the outputs (from fixed costs and learning by doing)

2. External / National - All inputs employed by all firms in one industry in one country, than the total industry outputs more than double (from learning by doing spillovers and infrastructure improvements)

3. External / International - if you double the inputs of all producers for the industry worldwide, you more than double the worldwide output (from flow of information)

Things to keep in mind and key elements relevant to FDI option

Cost of labor, labor productivity, product taxes, fixed costs

1. Fixed costs

2. each unit requires units of labor

3. Each unit of labor costs a certain wage

4. The price is chosen accordingly to maximise

Things to keep in mind and key elements relevant to export option

Distance, transport and fuel costs, market size and infrastructures, policies (tariffs and non-tariff barriers)

1. no additional fixed costs

2. each unit requires units of labor

3. each unit labor costs a certain wage

4. transport costs for each product

5. tariffs for each product

6. Price is chosen accordingly

When will someone choose FDI or export?

FDI: low units of labor and wages, high tariffs, high transport costs and distance, low fixed costs

Export: high units of labor and wages, low tariffs, low transport costs and distance, high fixed costs

How does the demand curve shift in monopolistic competition based on the number of firms in the market?

• to the right if some firms shut down

• to the left if new firms enter the market

What difference does the price make in monopolistic competition? (3 cases)

1. P = AC (this is the price got by setting marginal cost equal to marginal revenue): profits are zero

2. P > AC: more firms enter the market, the AD curve shift to the left bringing profits back to zero

3. P < AC: some firms shut down, the AD curve shifts to the right bringing profits back to zero

What is the relationship between the demand curve and the average cost curve?

• If demand curve is below AC curve, the firm cannot find a combination that the market will bear and that allows to break even in profits

• If demand curve cuts through the AC curve, the firm can choose a price-quantity combination that gives only positive profits (with consequences)

• if demand curve is tangent to AC curve, the zero-profit condition imposed by the free-entry condition is satisfied

What happens to monopolistic competition in free trade?

For instance, baronet’s demand curve is flatter - the demand is more elastic because consumers have more options available now. The prices decrease and firms sell more until they start losing money and the equilibrium is reestablished by some firms dropping out

What are the modifications to monopolistic competition that are introduced in the Melitz effect?

1. Firms have different marginal costs - heterogeneous firms

2. Firms have a fixed cost to export

3. Some firms die off and are replaced by new entrants

What are the conclusions of the Melitz effect?

1. a more efficient firm, with a lower marginal cost, will produce and sell more than a less efficient firm - firms that don’t reach a certain productivity threshold wouldn’t find any benefit in producing on a very small scale because they can’t keep up with the costs

2. Only the most efficient firms will pay the additional cost to export because they sell enough to justify it

3. when trade is opened all firms will be hit by import competition, but only the most productive ones will enjoy the offsetting benefits of export sales

Big firms continue expanding, globalisation causes productivity

What are the four assumptions of a Cournot model?

1. The two firms choose their quantities simultaneously

2. Each firm makes a conjecture about the quantity the other firm will produce

3. Each firm chooses their own quantity based on the conjucture made in order to maximise profits

4. Both conjuctures are correct

Why is imperfect competition a reason for trade?

Each firm tries to get a share of the other firm’s market to increase their profits

Who gains or loses from trade in the case of imperfect competition?

Producers lose because their profits are lower, the consumers gain because the price is lower and they consume more

What are the two welfare effects of trade in the case of imperfect competition?

1. Society gains from increased competition: price is closer to MC, deadweightloss is attenuated

2. Society loses from redundant transport costs

What are the 4 modifications to the Cournot model?

1. No transport costs: identical reaction functions for both markets, and the effect of trade is the positive in each country because only competition effect remains

2. Asymmetric oligopoly: if transport costs on one side were too high, the firm that wants to export there would not do it, so the country would be like autarky but minus the share taken by the foreign firm, the other country would have autarky plus foreign profits

3. Product differentiation: the competition effect would be weaker, consumers would benefit from more variety

4. Competition in prices: (bertrand model) if they guess prices instead of quantities then consumers will benefit and oligopolists lose (the price is so low they don’t gain anything)

What is the difference between ad valorem and specific tariffs?

• Ad valorem: % of invoice value

• Specific: $ of tax per unit of quantity imported

What happens if a tariff is added on cotton textiles in a pure specific factors model?

Both wages and price of capital services (north) increase with the price increase, so the north benefits. Nothing changes for the south but since the price of cotton textiles goes up they are losing

The incomes of specific factors are increasing in the prices of the output for the industry to which they are specific.

What is the difference between the pure-specific factors model and the mixed specific factors model? also what about the results for workers, capital owners, and land owners?

Labor is mobile. People move where wages are higher. The condition for labor to be indifferent is having the same wages in the north and in the south.

Workers get a smaller share of production even if it is increasing. There is less consumption of cotton, more of tobacco. There is then less inequality.

Capital owners gain a lot because the rental rates are going up. There is more inequality

Land owners lose a lot because they are producing less and paying workers more. There is more inequality

Four facts regarding the economy in the US

1. Since the 70s, the Us economy has more than doubles, the same for labor productivity

2. Wages started to lag behind productivity growth

3. Inequality in wages increased

4. This all coincides with the 2nd wave of globalisation

What is the Heckscher-Ohlin model?

It is a comparative advantage model in which trade is driven by differences in factor endowments. 2×2×2 model

What does abundant and intensive mean in the H-O model?

• Intensive: which good/sector has the greatest ratio in skilled or unskilled

• Abundant: the country that has the greater ratio in skilled or unskilled workers.

Explain the Rybczynski theorem

if there is an increase in the endowment of a certain good, the factor intensive good increases while the other decreases.

Explain the H-O theorem

Each country exports the good which is intensive in the abundant factor, and imports the other good.

How do we calculate consumption in autarky and free trade?

Using the zero-profit conditions for apparel and plastics, and the prices in autarky and free trade

Why does the data not follow the H-O model?

1. Pervasive skill-biased technical change (pervasive SBTC). (e.g. Berman et. al.)

2. Decline of unions.

3. Decline of real value of minimum wage.

4. Immigration (really disputed; see Ch. 12).

5. Outsourcing/o@shoring (disputed; see Ch. 11).

It is most likely a combination of factors.

What is the welfare in the US with a tariff?

• CS negative

• PS all positive

• GOV could be both depending on how big the terms of trade gain is

• TOTAL There are two distortions (production and consumption) that need to be balanced by terms of trade gain

What is the welfare in the ROW with a tariff?

• CS positive

• PS negative

• GOV zero

• TOTAL only negative

What is the welfare effect of a quota?

The same as the tariff, explain it!

What is the situation in the US with a VER?

Domestic demand rises, so do prices. People are worse off, consumers are happy, the government has no revenue, so welfare is negative

What is the situation in the ROW with a VER?

Consumers are happy, producers lose, governments can gain from export licences. the welfare is ambiguous but the government is earning a lot of money

What is the welfare with an export subsidy?

Consumers are losing, producers are happy, the government has to pay the subsidy so it loses. Total welfare is negative and this is a very expensive policy.

Summarise the welfare effects for tariff, quota, VER, export subsidy

What is the main problem behind trade?

Any country’s trade policy confers a terms-of-trade externality on other countries – if each country sets its own tariffs independently of all others, the resulting outcome will be inefficient, and so there is good reason for countries to try to coordinate trade policies through negotiation

What is GATT?

General Agreement on Tariffs and Trade (1948)

What are the two main GATT principles?

1. most favoured nation status - non-discrimination principle, any concession offered to one must be extended to the others

2. National treatment - once a product is inside the country it must treated with the same standards regardless of where it comes from

What are the 4 exceptions to GATT rules?

• Article 24: Preferential trade agreements - agreement between two countries is okay if its all the way free trade, doesn’t make others worst, and is notified to the WTO

• Article 6: Anti dumping and countervailing duties - no selling products below value otherwise there are tariffs

• Article 19: Escape Clause - a country can raise tariffs temporarily to product an industry that has received material injury due to an import surge

• Article 20: Exceptions for the protection of life, health, or natural resources, and for similar motives

What is the Sham problem?

Using environmental reasons to protect domestic production

What are the two principles that have emerged from GATT rulings since the 90s?

1. Health, safety, environmental regulations have to be based on hard science

2. Regulations must be non-discriminatory and must not interrupt trade more than necessary