Dominick Salvatore’s International Economics – 10th Edition Instructor’s Manual
SUGGESTED ANSWERS TO PROBLEMS
*1. Draw a figure similar to Figure 6.1, showing how mutually beneficial trade can take place between two nations based on economies of scale if the nations have identical production frontiers but different tastes.
See Figure 1.
2. Do the same as in Problem 1 for two nations that have equal tastes but different production frontiers.
See Figure 2.
3. Do the same as in Problem 1 for two nations with different production frontiers and tastes.
See Figure 3.
4. Find the degree of intra-industry trade if exports and imports are, respectively,
(a) 1,000 and 1,000
(b) 1,000 and 750
(c) 1,000 and 500
(d) 1,000 and 25
(e) 1,000 and 0
a) T = 1 - /1000-1000/ = 1 - 0 = 1.
b) T = 1 - /1000-750/ = 1 - 250 = 0.86.
c) T = 1 - /1000-500/ = 1 - 500 = 0.67.
d) T = 1 - /1000-250/ = 1 - 750 = 0.4.
e) T = 1 - /1000-0/ = 1 - 1000 = 0.
5. Do the same as in Problem 4, but interchange the values of exports and imports.
a) T = 1 - /1000-1000/ = 1 - 0 = 1.
b) T = 1 - /750-1000/ = 1 - 250 = 0.86.
c) T = 1 - /500-1000/ = 1 - 500 = 0.67.
d) T = 1 - /250-1000/ = 1 - 750 = 0.4.
e) T = 1 - /0-1000/ = 1 - 1000 = 0.
Note that the results are identical to those in Problem 4 because we take the absolute value of exports minus imports or imports minus exports.
*6. Using the same AC and MC curves as in Figure 6.2, draw a figure similar to Figure 6.2 but showing that the firm can earn a profit before other firms imitate its product and reduce its market share.
See Figure 4.
The AC and the MC curves in Figure 4 are the same as in Figure 6-2. However, D and the corresponding MR curve are higher on the assumption that other firms have not yet imitated this firm's product, reduced its market share, or competed this firm's profits away. In Figure 4, MR=MC at point E, so that the best level of output of the firm is 5 units and price is $4.50. Since at Q=5, AC=$3.00, the firm earns a profit of AB=$2.00 per unit and $10.00 in total.
7. (a) In what way does monopolistic competition resemble monopoly?
(b) How is it different?
(c) Why is the difference between monopolistic competition and monopoly important for consumer welfare in our intra-industry trade model?
a) Monopolistic competition resembles monopoly because under both forms of market organization the firm produces a product that is unique (i.e., no other firm produces an identical product).
b) Monopolistic competition is different from monopoly because under monopolistic competition there are many other firms that produce a similar product. On the other hand, there is no close substitute for the product sold by a monopolist.
Furthermore, under monopolistic competition, entry into the industry is easy. As a result, attracted by this firm's profits, more firms enter the industry to produce similar products. This reduces the monopolistically competitive firm's market share (i.e., its demand and corresponding MR curves shift down) until we get to the situation depicted by Figure 6-2 in the text, where P=AC and our firm breaks even. On the other hand, under monopoly, entry into the industry is blocked, so that the monopolist can continue to earn profits in the long run.
c) The difference between monopoly and monopolistic competition is important for consumer welfare because consumers get a greater variety of the commodity at a lower price with monopolistic competition than with monopoly.
8. How do the demand curves facing a perfectly competitive firm, a monopolistically competitive firm, and a monopolist differ from one another? Why?
A perfectly competitive firm faces an infinitely elastic or horizontal demand curve. This means that the firm is a price taker and can sell any quantity of the homogenous product at the price determined at the intersection of the market demand and supply curves for the commodity.
Both the demand curves faced by the monopolistic competitive firm and the monopolist are downward sloping, indicating that each can sell more units of the commodity by lowering its price. However, the demand curve facing the monopolistically competitive firm generally has a smaller inclination (i.e., it is more elastic) than the demand curve facing the monopolist because the former sells a commodity for which many good substitute are available.
9. What would happen if the C curve had shifted down only half as much as curve C_in Figure 6.3?
If the C curve had shifted down only half as much as curve C' in Figure 6-3, the new equilibrium point would be at P=AC=$2.50 and N=350.
10. Draw a figure showing the exports of the innovating and of the imitating country during the various stages of the product cycle.
See Figure 5.
11. Indicate how increased pirating or production and sale of counterfeit American goods without paying royalties by foreign producers might affect the product cycle in the United States.
The increased pirating or production and sale of counterfeit American goods without paying royalties by foreign producers shorten the U.S. product cycle or the time during which the U.S. firm can reap the benefits from the new product or technology it introduced and thus reduces the ability of U.S. firms to engage in research and development (R & D) new product cycles.
12. Show how transportation costs can be analyzed with production frontiers. (Hint: Relative commodity prices with trade will differ by the cost of transportation.)
See Figure 6.
With transportation costs specialization would proceed to point C in Nation 1 and point C’ in Nation 2. Pc in nation 1 (the nation exporting commodity X) is smaller than Pc' in Nation 2 (the country importing commodity X) by the relative cost of transporting each unit of commodity X from Nation 1 to Nation 2. Trade does not seem to be in equilibrium because transportation costs are expressed in terms of commodity X.
13. Do the same as in Problem1 with offer curves?
See Figure 7.
P2 exceeds P1 by the relative cost of transporting one unit of commodity X from Nation 1 to Nation 2.
*14. Draw a figure similar to Figure 6.5, showing that transport costs fall more heavily on the nation with the steeper demand and supply curves for the traded commodity.
See Figure 8.
*= Answer is provided at www.wiley.com/college/salvatore.
SUGGESTED ANSWERS TO PROBLEMS IN APPENDIX
A6.1 Problem Draw a figure showing external economies for a single firm.
See Figure 9.
The firm's AC=AF without and BC with external economies. Thus, at a given level of output of the firm, the firm's AC are lower (i.e., the firm's AC curve shifts down) as cumulative industry output expands.
A6.2 Problem The equation of the learning curve can be expressed as AC = aQb. Explain the meaning of each parameter and whether it needs to assume a positive or negative value to obtain a learning curve.
Parameter "a" refers to the starting AC (i.e., the AC when output or Q is zero). Parameter "b" refers to the rate of decline in AC as cumulative industry output increases. Thus, "b" should be negative. Furthermore, the larger the absolute value of b, the more rapid is the decline in AC as cumulative industry expands over time.
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