1.1.(6 points) True or False (explain carefully): “According to the HO model, in
ID: 1226473 • Letter: 1
Question
1.1.(6 points) True or False (explain carefully): “According to the HO model, international trade in a nation with a relative abundance of skilled labor and a relative scarcity of unskilled labor will tend to widen or worsen the income disparity between skilled and unskilled workers.”
1.2 (8 points): Discuss the differences and similarities between a quota and an equivalent import tariff. Which is a more restrictive trade barrier, a tariff or an equivalent import quota? Explain as carefully as you can.
1.3. (6 points) Why might a large country have a greater incentive to use trade restrictions (such as tariffs)? Are there any arguments to suggest that following this temptation might not be a good idea? Explain as carefully as you can.
2. (30 points) For the following questions, refer to the figure below:
Suppose the figure above represents the US market for product X (the horizontal axis in the figure shows the quantity of product X demanded and supplied in the US market) .
i) What is the price of X under free trade? In the figure above, the US has imposed a tariff (denoted by t) of what size? Is the US a small or a large country in the market for product X?
ii) What happens to the quantity of imports of X to the US as the tariff is imposed (how much do the import increase or decrease)? Is the world price of X affected?
iii) Who gains and who loses from the tariff in the US? Give the size of the gains and losses as accurately as possible.
Is the US better off or worse off as a consequence of the tariff (consider the net effect on the economy)? Explain.
iv) Considering the impact of the tariff on the US economy, why might the tariff be imposed in the first place?
v) Are there any alternative policies that could be used to attain the goals of part iv)? Are these policies more or less costly for the US economy (in terms of the deadweight loss created by the policy)? Explain.
Explanation / Answer
Answer 1.1:
The statement is true. This is because the nation will specialize in the production of the commodity requiring skilled labor as the nation has relative abundance of skilled labor. Thus, wages of skilled labor will rise as compared to the unskilled labor. Thus, income disparity between skilled and unskilled labor will rise.
Answer 1.2:
Both are measures to control import of a good in the country. But there are few differences:
1.Adjustment to any shift in supply and demand of the good will occur in domestic prices with an import quota . Increase in demand will increase the domestic price of the good in case of import quota. In case of an import tariff, increase in demand will lead to higher consumption and imports than with equivalent import quota.
2. Import quota may involve corruption and bribing of government officials as it involve distribution of licenses . Thus, lobbying may be involved. But this is not the case of import tariff as it does not involve distribution of licenses.
Import quota is a more restrictive trade barrier. This is because import quotas limit imports to a specified level with certainty. But the impact of a tariff is more dependent on the elasticity of the supply and the demand curves. Thus, it is not certain. Also, reduction in the imports may be less in case of import tariff as the exporters might accept lower profits or may increase their efficiency. This is not the case in import quotas which specifies beforehand the amount of imports.
Answer 1.3:
Countries impose tariff to protect the infant industries and to control exchange rate fluctuations by rising imports in the country. To control deficit, the countries restrict imports of a nation. However, it is only a short term measure as it hampers competition and efficiency of the infant firms. Also, raising exports is a better measure to control deficit rather than restricting imports.
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