AIU Exam – Classical Theory of International Economics

School: Business & Economics

Major: Economics

Course title: Classical Theory of International Economics

Credits for course: 3 credits
Description of course:
 CHAPTER 1, The World of International Economics, 1
 CHAPTER 2, Early Trade Theories: Mercantilism and the Transition to the Classical
World of David Ricardo, 17
 CHAPTER 3, The Classical World of David Ricardo and Comparative Advantage, 28
 CHAPTER 4, Extensions and Tests of the Classical Model of Trade, 42

Book & chapter: International Economics by Appleyard, Chapters 1, 2, 3 and 4

Link to book:

http://students.aiu.edu/submissions/profiles/resources/onlineBook/
w4W3D5_International_Economics8.pdf
Bibliography of book:

Appleyard, Dennis. "International Economics." McGraw Hill Irwin, 8th Edition (2014).
.
Format of the assignment: Assignment must have an AIU cover page, introduction to
the topics of the chapter, answers to the questions below, conclusion about the exam
and the bibliography of book at end of assignment.
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Please include questions with your answers, so that we can see the question being
answered.

Questions…
Chapter 2
1. What were the pillars of Mercantilist thought? Why was regulation of the economy so
important?

2. What is meant by the “paradox of Mercantilism”? How was this reflected in

Mercantilist wage and population policies?

3. What are the critical assumptions of the price-specie-flow mechanism? What

happens to the trade balance in a surplus country if the demand for traded goods
is price inelastic? Why?

4. Briefly explain why the ideas of Smith and Hume were so devastating to Mercantilist
thinking and policy.

5. The following table shows the hours of labor required to produce 1 unit of each
commodity in each country:

Which country has an absolute advantage in wheat? In clothing? Why? If trade

takes place between the United States and the United Kingdom at a barter
price of 1 clothing for 2 wheat (or 1 wheat for ½ clothing), why does each
country gain from trade? Explain.

6. China has had an overall trade surplus in recent years. Economists suggest that this
continuing phenomenon is due to several things, including an inappropriate
exchange rate. How would a Mercantilist view this surplus? Why might David
Hume argue that the surplus will disappear on its own?

Chapter 3
1. The following table shows the number of days of labor required to produce 1 unit of
output of computers and wheat in France and Germany:
 (a) Calculate the autarky price ratios.
(b) Which country has a comparative advantage in computers? Explain why. Which
has a comparative advantage in wheat? Explain why.
(c) If the terms of trade are 1 computer:22 wheat, how many days of labor does
France save per unit of its import good by engaging in trade? How many days
does Germany save per unit of its import good?
(d) If the terms of trade are 1 computer:24 wheat, how many days of labor do
France and Germany each save per unit of their respective import good?
(e) What can be said about the comparative distribution of the gains from trade
between France and Germany in part (d) and part (c)? Why?

2. The following table shows the number of days of labor required to produce a unit of
textiles and autos in the United Kingdom and the United States:

(a) Calculate the number of units of textiles and autos that can be produced from 1
day of labor in each country.
(b) Suppose that the United States has 1,000 days of labor available. Construct the
production-possibilities frontier for the United States.
(c) Construct the U.S. consumption-possibilities frontier with trade if the terms of
trade are 1 auto:2 units of textiles.
(d) Select a pre-trade consumption point for the United States and indicate how
trade can yield a consumption point that gives the United States greater
consumption of both goods.

3. In the light of the Ricardian model, how might you evaluate the claim by developing
countries that they are at a disadvantage in trade with powerful industrialized
countries?

4. Suppose that Portugal requires 4 days of labor to produce 1 unit of wine and 6 days
of labor to produce 1 unit of clothing, while England requires 8 days of labor to
produce 1 unit of wine and 12 days of labor to produce 1 unit of clothing. Which
country has absolute advantages and why? What is the situation with respect to
comparative advantages?
5. How can a country gain from trade if it is unable to change its production pattern?

6. During the debate prior to the passage of the North American Free Trade Agreement
(NAFTA), opponents argued that given the relative size of the two economies, the
income gains resulting from the agreement would likely be smaller for the United
States than for Mexico. Comment on this position in view of what you have learned
about the distribution of the benefits of trade in the Classical model.

Chapter 4
1. Suppose that France has a trade surplus with the United Kingdom. What would you
expect to happen to prices, wages, and commodity prices in France? Why? What
would happen to the terms of trade between the two countries?

2. Consider the following Classical labor requirements:

(a) Why is there a basis for trade?

(b) With trade, Italy should export _____ and Switzerland should export _____ because
_____.
(c) The international terms of trade must lie between _____ and ____ .
(d) If the wage rate in Italy is €4/hr, the wage rate in Switzerland is 3.5 francs/hr, and
the exchange rate is 1 franc/€1, what are the commodity terms of trade?

3. In the following two-good, multi-country example of labor requirements, do all the

countries stand to gain from trade if the international terms of trade are 1 lb fish:0.5
bu potatoes? If so, what commodities will each country export and import? If these
commodities are not exported or imported, why not?

4. During the debate on the North American Free Trade Agreement (NAFTA), The
Economist (September 11, 1993, p. 22) noted that average wages and fringe
 benefits in Mexican manufacturing industries were about one-fifth those in U.S.
manufacturing and that U.S. output per worker was about five times that of
Mexican manufacturing. Based on your understanding of this chapter and of the
Classical model, is there any causal relationship between these two facts? Explain.

5. You are given the following Classical-type table showing the number of days of labor
input required to obtain 1 unit of output of each of the five commodities in each of
the two countries:

(a) Assume that the wage rate in the United Kingdom (W UK) is £8/day, the wage
rate in the United States (W US) is $20/day, and the exchange rate (e) is
$2/£1. With this information, determine the goods that will be U.K. exports
and the goods that will be U.S. exports.
(b) Keeping W US at $20/day and keeping the exchange rate at $2/£1, calculate
the upper and lower limits (in pounds per day) to the U.K. wage rate that are
consistent with two-way trade between the countries.
(c) With W UK at £8/day and W US at $20/day, calculate the upper and lower limits
(in $/£) to the exchange rate that are consistent with two-way trade between
the countries.

6. What do you regard as the main weaknesses of the Ricardian/Classical model as an

explanation of trade patterns? Why do you regard them as weaknesses?