Principles of Economics - Ch.5 + Ch.6

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Ricardian Model


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Ricardian Model

  • Productivity is based on technology difference

  • Analyzes interational trade under the assumption that opportunity costs are constant

Hecksher-Ohlin model

  • A country has a comparative advantage in a good whose production is intensive in the factors that are abundantly available in that country. This would lower production costs.


  • trade increases world production of both goods, allowing both countries to consume more

  • move towards production of good of comparative advantage

  • trade liberates both countries from self-sufficiency

Pauper Labor Fallacy

  • The concept states that when a country imports goods from an economy where the workers are lowly paid, it affects workers standards of living in such a country. (which is a myth)

Consumer surplus

Consumer surplus is the difference between the highest price a consumer is willing to pay and the actual market price of the good.

Producer surplus

Producer surplus is the difference between the market price and the lowest price a producer would be willing to accept.

Sources of comparative advantage

  • differences in climate (can also lead to absolute advantage)

  • differences in factor endowments (land, labour, capital, managerial talent which is management)

  • technology

  • productivity levels

Factor intensity

Factor intensity of a good is a measure of which factor is used in relatively greater quantitites than other factors in production.


  • tax or duty to be paid on a particular class of imports or exports

  • can be bad for free trade (free trade creates more GDP, and less loss, and more efficient allocation of resources)


With a quota, licenses are sold to companies that wish to import

Arguments for protectionism

• National Security (including food; high tech) • Job Creation (to help low skilled workers, and less mobile populations) • Infant Industry argument—argues that to jump start a sector, it has to be protected until it can stand on its feet (this does hold true, esp. in developing countries: the question is, how much protection is fair?)

Free trade agreements

• WTO • Replaces GATT in 1994 • Attempts to enforce statutes • NAFTA – also signed in 1993 • EU – Monetary Union by 2001 • TPP


  • Relocate (a business or department) to a foreign country to take advantage of lower taxes or costs

  • It makes it very difficult to collect revenue

Economic slump

  • Keynesian econ: caused by inadequate spending, and they can be mitigated by government inter vention

Monetary policy

Uses change in quantity of money to alter interest rates and affect overall spending

Fiscal policy

Uses changes in government spending and taxes to affect overall spending


  • the state of the economy declines; a widespread decline in the GDP and employment and trade lasting from six months to a year

  • output and employment are falling

  • contractions


  • The state of the economy improves

  • output and employment rise

  • recoveries

business cycle (growth cycle)

A short-run alteration between expansions and recessions

Business-Cycle peak

Economy goes from expansion to recession (can lead

Business-cycle trough

  • economy goes from recession to expansion

  • represents a slowdown or decline in GDP which leads to rising unemployment

  • can lead to inflation (people spend so there is upward pressure on prices)

  • low interest rates can lead to too much borrowing; creation of bubbles

Trade deficit

a country's imports exceed its exports during a given time period

Trade Surplus

a country's exports exceed its imports during a given time period