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Two students, Ryan Wattenberg and Emma Bennett are discussing the idea of convergence over coffee. Ryan considers convergence to be true in theory but impractical in the real world. He claims that most low-income developing countries are stuck in a cycle of poverty and so cannot catch up with developed countries. With increased globalization, Emma feels that the developing countries are growing and will converge with higher-income countries eventually. Zoey Smith, a friend of theirs, however, thinks that the evidence on convergence is rather unclear. Despite the fact that developing countries are growing much faster than the developed countries, she thinks that they will not be able to catch up with the developed nations in the near future.
Which of the following, if true, would strengthen Emma's argument that developing countries will not catch up with developed countries?
A. Most developing nations are at the point where the cost of capital exceeds the marginal product of capital.
B. The number of bilateral and multilateral agreements relating to technology transfer from developed to developing nations has significantly increased.
C. With low public investment in healthcare, the cost of private healthcare as a proportion of average income is very high in developing.
D. Since cash flows from foreign sources are considered volatile, many developing countries have capital controls and other regulations that restrict the flow of foreign investment.
E. Unlike the developed nations, most developing countries do not have extensive government-sponsored social security programs.
Fill in the blanks. In case you get stuck, Iâve provided a list of all the missing words in alphabetical order at the end of the question. According to David Ricardoâs model, the pattern of trade between nations is determined by the distribution of ______________________ advantage. Unlike the ______________________ advantages described by Smith, Ricardoâs explanation allows for trade between partners in which one nation has superior ______________________ in the manufacture of all goods. Thatâs because Ricardoâs principle rests on the economic concept of ______________________ (defined as the amount of good Y that must be sacrificed when the nation produces a unit of good X) which can never be concentrated in just one nation. The model is usually specified with barter-style trade, meaning that we use ______________________ rather than ______________________ prices for the tradable goods. The price of each good on international markets must be higher than ______________________ in the exporting countries and lower than ______________________ in the importing countries. Although all parties can benefit from trade, there is no reason to think that they benefit equally. The ______________________ are derived from the difference between the opportunity costs of production in each nation and then distributed between participating nations according to the market price. As the price of a nationâs ______________________ good rises, it receives a larger share of the gains from trade, and we say that its ______________________ are appreciating. However, nations that ______________________ this good will receive a smaller share of the benefits from trade.
Absolute
Comparative
Export
Gains from trade
Import
Max WTP
Min WTA
Money
Opportunity cost
Productivity
Relative
Terms of trade
4. (Part A) Suppose the USA and China are considering whether to engage in trade. Here are the production possibilities of the two countries before trade occurs:
Table 1. Production of Apparel or Chemicals in the USA and China.
The Opportunity Costs of producing one product or the other are displayed.
1000âs of Tons of
Apparel Units Chemicals
Nation Produced or Produced
USA 50 or 150
China 30 or 60
Which nation has the comparative advantage in producing Apparel? Which nation has the comparative advantage in producing chemicals? Explain how you arrived at these conclusions.
Explain the Law of Comparative Advantage, and its application to trading relationships between nations. In the example above, if the two nations decide to engage in mutually beneficial trade, which nation should specialize in producing Apparel and which nation should specialize in producing Chemicals, and Why?
Suppose a trade proposal is made to exchange 1 thousand units of apparel for 2.5 tons of chemicals. Would these terms of trade (1 Apparel : 2.5 Chemicals ) be acceptable to, and mutually beneficial for, both the USA and China as trading partners? Why or why not?
What are the âpayoffsâ from open trade? What are some of the limitations associated with open trade?
4. (Part B) Suppose the USA and EU are trading, and currencies must be exchanged as goods/services are imported and exported between the two regions. The $USD is the currency of the USA, and the â¬Euro is the currency of the EU.
a. Are the following statements correct or incorrect? Why or why not?
âIf the USA is exporting its goods to the EU, these exports from the USA to the EU create a demand for â¬Euros in the Currency Exchange Market for â¬Euros.â
âIf the USA is importing goods from the EU, these imports to the USA from the EU create a supply of $USD in the Currency Exchange Market for $USDâs.â
âIf the EU is importing goods from the USA, these imports to the EU from the USA create a demand for $USD in the Currency Exchange Market for $USDâs.â
Throughout your answer to any of these other questions, use graphs as needed (all axes and functions completely labeled) to accompany your written analyses.
