What Is The Basis For and What Are The Gains From Trade? What Is The Pattern of Trade?

QUESTIONS FOR REVIEW
1.
way is the model presented in this chapter an abstraction or a simpliﬁcation of
the real world? Can the model be generalized?
a. There are 2 fundamental questions that economics learners like ourselves
need to answer:
What is the basis for and what are the gains from trade?
What is the pattern of trade?
What is the basis for and what

are the gains from trade?
 What is the pattern of trade?
 What is the basis for and what are the gains from trade?
 What is the pattern of trade?
b. The model is an abstraction for the real world since it could explain the
pattern of trade and gains from trade using the law of comparative
advantage. That model can also be a simplification for the real world by
using 2 nations and 2 commodities, then generalizing to trade in more
than 2 commodities and among more than 2 nations.
b. The model could be generalized as the following: Assuming there are 2 nations
with 2 commodities, the law of comparative advantage will determine which
commodities that a nation should export and import to gain from international
trade.
2.
wealth differ from today’s view?
a. The mercantilists believed that a nation could gain in international trade only at
the expense of other nations. As a result, they supported restrictions on imports,
incentives for exports, and strict government regulation of all economic activities
b. The mercantilists measured the wealth of a nation by the stock of precious
metals it possessed. Whereas in present days, we measure national wealth by its
stock of human, man-made, and natural resources available for producing goods
and services.
3.
views different from those of Adam Smith? What is the relevance of all
this
today?
a. They play a vital role due to 2 reasons. First of all, the ideas of Adam Smith,
David Ricardo, and other classical economists can best be understood if they are
regarded as reactions to the mercantilists’ views on trade and on the
government’s role. In addition, today there seems to be a resurgence of neo-
mercantilism, as nations plagued by high levels of unemployment seek to restrict
imports with an aim to stimulate domestic production and employment
b. While the mercantilists believed that only 1 nation can gain benefits
from international trade, Adam Smith indicated that both nations participating in
this specific business activity can both gain from it.
c. Today, though most nations claim to be in favor of free trade, most of them
continue to implement several restrictions on international trade (by using tariffs,
quotas, etc…)
4.
were gains from trade generated? What policies did Smith advocate in
international trade? What did he think was the proper function of government in
the economic life of the nation?
a. According to Adam Smith, trade between nations (assuming there are
2 countries) is based on absolute advantage. Both nations can gain by specializing
in the production of the commodity of its absolute advantage and exchanging
part of its output with the other nation for the commodity of its
absolute disadvantage.
b. Resources can be best utilized and the output of both commodities will rise. This
increase in the output of both commodities measures the gains from
specialization in production available to be divided between the two
nations through trade.
c. He strongly advocated the policy of laissez-faire (i.e., as little
government interference with the economic system as possible).
d. According to Smith’s opinion, the government may have a few functions in the
economic life of the nation, for example, protection of industries important for
national defense.
5.
theory of absolute advantage? How do gains from trade arise with comparative
advantage? How can a nation that is less efﬁcient than another nation in the
production of all commodities export anything to the second nation?
a. Smith only discussed two nations which had its own absolute advantage. In the
meantime, Ricardo added the appearance of a nation that was less efficient in
the production of two commodities.
b. Gain from trade can arise with comparative advantage as long as the absolute
disadvantage that the first nation has with respect to the second is not in the
same proportion in both commodities.
c. The less efficient nation should specialize in the production and export of the
commodity in which its absolute disadvantage is smaller.
6.
a. The exception to the law of comparative advantage is that there is no
comparative advantage. This situation occurs when the absolute
disadvantage that one nation has with respect to another nation is the
same in both commodities.
b. Its occurrence is rare and a matter of coincidence. Additionally, natural
trade barriers such as transport costs can prevent trade even when some
comparative advantage exists.
PROBLEMS
1.
and the United Kingdom can produce with one hour of labor time under four
different hypothetical situations. In each case, identify the commodity in which
the United States and the United Kingdom have an absolute advantage
or
disadvantage.
In case A, the United States has an absolute advantage in wheat and the United
Kingdom in cloth.
In case B, the United States has an absolute advantage (so that the United
Kingdom has an absolute disadvantage) in both commodities.
In case C, the United States has an absolute advantage in wheat but has neither
an absolute advantage or disadvantage in cloth.
In case D, the United States has an absolute advantage over the
United Kingdom in both commodities.
2.
nation has a comparative advantage or disadvantage.
In case A, the United States has a comparative advantage in wheat and the
United Kingdom in cloth.
In case B, the United States has a comparative advantage in wheat and the
In case C, the United States has a comparative advantage in wheat and the
In case D, the United States and the United Kingdom have a
comparative advantage in neither commodity.
3.
and the basis for trade.
In case A, trade is possible based on absolute advantage.
In case B, trade is possible based on comparative advantage.
In case C, trade is possible based on comparative advantage.
In case D, no trade is possible because the absolute advantage that the United
States has over the United Kingdom is the same in both commodities.
4.
the United Kingdom.
(a) How much does the United States gain in terms of cloth?
(b) How much does the United Kingdom gain in terms of cloth?
(c) What is the range for mutually beneficial trade?
(d) How much would each nation gain if they exchanged 4W for 6C instead?
a) The United States gains 1C.
b) The United Kingdom gains 4C.
c) 3C < 4W < 8C.
d) The United States would gain 3C while the United King
dom would gain 2C.

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What is the basis for and what

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