CHAPTER 2 TRADE THEORIES AND ECONOMIC DEVELOPMENT

MULTIPLE CHOICE 1. Trade is a a) zero sum game c) negative sum game b) positive sum game (X) d) all of the above

2. A country should export a product that it can produce at a lower cost than other nations can. This is the principle of a) absolute advantage (X) c) relative advantage b) comparative advantage d) factor endowment

3. According to the principle of absolute advantage, a country should ..... a commodity that can be produced at a lower cost than can other nations. a) export (X) c) both export and import b) import d) neither export nor import

4. According to the principle of absolute advantage, a country should import a commodity that can be only produced at a ..... cost than can other nations. a) higher (X) c) same b) lower d) cost is irrelevant

5. The principle of relative advantage states that a country should produce a product with the ..... comparative advantage. a) least c) equal b) greatest (X) d) somewhat higher

6. According to the principle of relative advantage, a country should export a product for which it has the least a) absolute advantage c) comparative advantage b) absolute disadvantage d) comparative disadvantage (X)

7. According to the principle of comparative advantage, a country with the absolute disadvantages in all products should specialize in the product that it has a) absolute advantage c) less comparative advantage e) greatest comparative disadvantage b) more comparative advantage d) least comparative disadvantage (X)

8. On any certain day, the United States can produce 20 items of product A and 30 items of product B, while Australia produces 10 of A and 20 of B. Which product should Australia specialize in? a) A
1

b) B (X)

c) none of the above

d) A and B equally

9. A country should export a product that it can produce at a lower cost than other nations can. This is the principle of a) absolute advantage (X) c) relative advantage 10. Comparative advantage is a) static c) dynamic (X) b) semi-static d) semi-dynamic b) comparative advantage d) factor endowment

11. The theory of factor endowment considers this factor of production. a) labor c) capital b) land d) all of them are considered (X)

12. This production factor is not China's comparative advantage. a) labor c) capital (X) b) land d) technology

13. The evidence that the United States exports labor-intensive goods and imports capitalintensive goods is known as a) principle of absolute advantage c) Leontief Paradox (X) 14. Trade theories assume that trade is a) unilateral c) multilateral 15. Classical trade theories assume a) consumer homogeneity across national markets (X) b) product heterogeneity c) existence of trade restrictions d) importance of marketing activities 16. Since worldwide free trade is impossible, it is desirable to have economic cooperation on a smaller scale. This is known as a) theory of the best policy c) theory of the second best (X) b) factor endowment theory d) theory of relative advantage b) bilateral (X) b) principle of relative advantage d) factor endowment

17. This kind of economic cooperation requires countries to remove duties among themselves but allows member countries to maintain their own tariffs against outsiders. a) customs union c) common market b) free trade area (X) d) political union

18. NAFTA represents this type of economic cooperation. a) free trade area (X) c) common market b) customs union d) monetary union

19. This kind of economic cooperation requires countries to have identical tariffs against outsiders. a) customs union (X) c) common market b) free trade area d) political union

20. This kind of economic cooperation makes it necessary for a foreign firm to enter a member country with the least nontariff restrictions. a) free trade area c) common market (X) b) customs union d) political union

21. When countries agree to remove restrictions on the movement of factors of production, their economic cooperation is known as a) customs union c) common market (X) b) free trade area d) political union

22. This is not a characteristic of monetary union. a) total and irreversible convertibility of currencies b) complete freedom of capital movements c) revocably fixed exchange rates (X) 23. This type of economic cooperation requires convertible currencies, freedom of capital movements, and irrevocably fixed exchange rates. a) free trade area c) common market b) customs union d) monetary union (X)

24. Monetary union requires convertibility of currencies to be a) total but reversible c) partial and reversible 25. An economic union requires a) uniform tariff rates among member countries b) uniform tariffs against outsiders c) removal of restrictions on movement of factors of production d) harmonization of the national economic policies (X) 26. If a single currency is not possible, a monetary union must adopt these currency conditions, except a) complete freedom of capital movements b) total and irreversible convertibility of currencies c) irrevocably fixed exchange rtes with some fluctuation (X) b) total and irreversible (X) d) partial and irreversible

27. This is not a characteristic of a monetary union. a) partial freedom of capital movements (X) b) total and irreversible convertibility of currencies c) irrevocably fixed exchange rates with no fluctuation 28. One money, one market is the description of this type of economic cooperation. a) free trade area c) economic union (X) b) common market d) political union

29. The European Union members want to adopt a single currency in order to form this kind of regional cooperation. a) free trade area c) common market b) customs union d) economic union (X)

30. Malaya and Singapore formed a new nation called Malaysia in the 1960s. This type of cooperation is a) common market c) economic union e) customs union b) monetary union d) political union (X)

TRUE OR FALSE 1. Trade is a zero sum game. (F) 2. The principle of absolute advantage states that a country should import a commodity that can be produced at a lower cost than can other nations. (F) 3. If one nation has absolute advantage for all products, trade will not take place. (F) 4. As long as the domestic exchange ratio of the United States and that of Canada are identical, the United States should trade with Canada even though the United States may have absolute advantage in all products. (F) 5. If the domestic exchange ratio of the United States and that of Canada are identical, the United States should not trade with Canada even though the United States may have absolute advantage in all products. (T) 6. According to the principle of relative advantage, absolute production costs are irrelevant. (T) 7. Relative production costs can determine whether trade should take place, but they do not determine what items to export or import. (F) 8. The principle of relative advantage suggests that a country should produce a product with the least comparative disadvantage. (T) 9. Because of trade, the two different domestic exchange ratios will be replaced by a new ratio called the world market exchange ratio or terms of trade. (T)

10. International trade is a function of the unequal domestic exchange ratios. (T) 11. A country that has absolute advantage in all products has nothing to gain from trading with other nations. (F) 12. Comparative advantage is a dynamic concept. (T) 13. One basic assumption of the principles of absolute and relative advantage is that the advantage is solely determined by labor. (T) 14. German and Japanese firms are successful in international trade because of their low labor costs. (F) 15. Countries can remain competitive in spite of their higher wages. (T) 16. A country's labor cost may be absolutely high and yet relatively low. (T) 17. Comparative advantage can be determined by abundance of factor endowments. (T) 18. According to the theory of factor endowment, the various regions of the world are equally well endowed with regard to production factors. (F) 19. According to the factor endowment theory, a countrys comparative advantage is in the production factor that it lacks. (F) 20. The theory of factor endowment holds that the inequality of relative prices is a function of regional factor endowments. (T) 21. Countries have different costs and prices because they differ in the supply of the factors of production. (T) 22. According to Michael Porter's theory of the Competitive Advantage of Nations, there are four major determinants of international competitiveness, and each determinant has no effect on the other determinants. (F) 23. According to Michael Porter's "diamond," a nation's competitive industries should be clustered. (T) 24. Michael Porter's "diamond" advocates that a nation should not cluster the industries. (F) 25. The evidence that the United States exports labor-intensive goods and imports capitalintensive goods is known as Leontief Paradox. (T) 26. Based on the factor endowment theory, developing countries should trade more with developed countries rather than among themselves. (T) 27. Developed countries tend to trade among themselves rather than with developing countries. (T) 28. Classical trade theories assume that factors of production are immobile. (T) 29. Production factors are now considered more mobile than previously assumed. (T)

30. Capital, as a factor of production, is mobile. (T) 31. Classical trade theories ignore the marketing aspect of trade. (T) 32. Countries forming a free trade area must have joint boundaries. (F) 33. Monetary union means adoption of multiple currencies. (F) 34. Economic union eliminates foreign exchange transaction costs and risks. (T) 35. An economic and monetary union (EMU) envisages total fiscal and monetary integration. (T) 36. For an economic and monetary union (EMU) to function effectively, member countries should have different economic conditions. (F) 37. "Social dumping" is a movement of business and jobs away from areas with high wages to areas with less organized labor forces and weak social-welfare policies. (T) 38. It is very unlikely that a political union on a global scale can ever become reality. (T) 39. Economic cooperation results in trade creation as well as trade diversion. (T) 40. Economic integration encourages trade liberalization internally, while it promotes trade protection externally. (T)