Quiz 2-

1. True or False: "Provided that their opportunity costs of production are not equal, two countries will find that specialization of production and trade according to comparative advantage will increase the overall level of production."

a. True

b. False

Use the following information to answer the next two questions.

Each time Country A decides to produce 1 bicycle it must give up 2 radios. Each time Country B decides to produce 1 radio it must give up 3 bicycles.

2. If the two countries specialize according to their comparative advantage Country B should produce

a. Radios

b. Bicycles

3. If the two countries specialize according to their comparative advantage then 10 radios will trade for

a. Between 5 and 30 bicycles.

b. Between 3.3 and 20 bicycles.

4. Consider the market for oil. It was initially in equilibrium and then two events occurred. Unrest in the Middle East disrupted the supply of oil. At the same time several countries decided to release some of their oil reserves to the market. Relative to the initial equilibrium in the market, the combination of these two events will

a. Result in a lower price and greater quantity in the market relative to the initial equilibrium.

b. Results in a lower price and lower quantity in the market relative to the initial equilibrium.

c. Results in a lower price and an indeterminate change in quantity in the market relative to the initial equilibrium.

d. Results in an indeterminate change in price and an indeterminate change in quantity in the market relative to the initial equilibrium.

5. Which of the following statements is true? Circle all answers that you agree are true.

I. When a small country opens a market to trade and the world price is greater than the equilibrium domestic price then the country will export the good.

II. When a small country opens a market to trade, the trade results in positive economic gains.

III. When a small country opens a market to trade, domestic consumers have a greater consumer surplus than they had when the market was closed to trade.

Problem: Suppose the market for a good in a small closed economy is described by the following demand and supply equations:

Domestic Demand: P = 100 - 2Q

Domestic Supply: P = 20 + 2Q

a. If this economy is closed, what is the equilibrium price and quantity?

b. What is the value of consumer surplus and producer surplus if this is a closed economy?

c. Suppose this economy opens to trade and the world price of this good is $80. Describe what happens in this market when this economy opens to trade. In your answer identify 1) whether this country imports or exports the good; 2) the numeric level of imports or exports; 3) who benefits from this economy opening to trade; and 4) what happens to consumer surplus and producer surplus (provide a numeric value).

d. CHALLENGE QUESTION: Suppose this economy opens to trade and the world price of this good is less than the equilibrium price of the good when the economy is closed to trade. Domestic producers lobby the government to enact a tariff on this good. Suppose this tariff results in a producer surplus of $225. What is the tariff price for this good?