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Running head: INTERNATIONAL ECONOMIES
International Economies
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1INTERNATIONAL ECONOMIES
Table of Contents
Question 1........................................................................................................................................2
Effect of tariff in as small country: Partial equilibrium analysis.................................................2
Question 2........................................................................................................................................3
Question a....................................................................................................................................3
Question b....................................................................................................................................4
Question c....................................................................................................................................5
Question 3........................................................................................................................................6
a. Terms-of trade argument for protection...................................................................................6
b. Intra-industry trade..................................................................................................................6
c. Factor price equalization theorem............................................................................................6
Question 4........................................................................................................................................7
Leontief paradox and Raymond Vernon’s product cycle theory.................................................7
Question 5........................................................................................................................................9
Demand reversal in Heckscher-Ohlin model...............................................................................9

2INTERNATIONAL ECONOMIES
Question 1
Effect of tariff in as small country: Partial equilibrium analysis
In the world market, a small country acts as a price taker. The “country imports a
product because the international price is less than the domestic equilibrium price in autarky”
(Appleyard and Alfred). As shown in figure 1, in the absence of any tariff domestic price (P0) is
same as the world price (Pw). Now, if the imposes an import tariff of‘t’, the domestic price
increases to P1. With an ad valorem tariff, domestic price after tariff is P1 = Pw (1+t). As the
imposed tariff increases effective price in the domestic market, quantity supplied in the domestic
market increases from QS0 to QS1. The higher price reduces quantity demanded from the good
from QD0 to QD1. Consequently, volume of import in the country reduces from (QD0 - QS0) to (QD1 -
QS1). In order to evaluate net impact of tariff on the small country both cost and benefits of the
proposed policy needs to be evaluated.
Figure 1: Effect of tariff in a small country

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The two agents that who are benefitted from the tariff are government and consumer. The
resulted price increase due to tariff increases producer surplus as given by the area of trapezoid
ABCJ. The tariff yields government a revenue given by the area KCFG. “The losers from this
policy are consumers who have to pay a higher price and consequently reduce their quantity
demanded” (Appleyard and Alfred). The loss to consumer surplus is the area of trapezoid
ABFH. Part of the loss in consumer surplus are transferred to producers and to the government.
Triangle JCK and GFH are part of the consumer surplus received by neither producers nor
government. These two area reflects deadweight loss or welfare loss to the society due to
imposition of tariff.
Question 2
Cornland is a small country taking world price of Corn as given. The domestic demand
and supply function of Cornland is given as
Demand : D=36−3 P
Supply : S=3 P−12
Question a
Equilibrium in the domestic market is determined where demand equals supply.
Demand=Supply
¿ , 36−3 P=3 P−12
¿ , 3 P+ 3 P=36+12
¿ , 6 P=48

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¿ , P= 48
6
¿ , P=8
Autarky equilibrium quantity
Q=36−3 P
¿ 36− ( 3 ×8 )
¿ 36−24
¿ 12
Question b
At world price of $4 per bushels of corn
Domestic demand for corn is
D=36− ( 3 × 4 )
¿ 36−12
¿ 24
At this price domestic supply of corn is
S=3 P−12
¿ ( 3 × 4 ) −12
¿ 12−12
¿ 0

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The domestic supply of corn at the world price falls to 0. All the corn demanded in
Cornland is therefore imported from the world market.
Question c
Now, government imposes a tariff of amount $1. After imposition of tariff, the effective
price of corn in the domestic market becomes ($4 + $1) = $5 per bushels of corn.
At the new price, quantity demanded of corn is
D=36−3 P
¿ 36− ( 3 ×5 )
¿ 36−15
¿ 21
The quantity supplied of corn at the new price is
S=3 P−12
¿ ( 3 ×5 ) −12
¿ 15−12
¿ 3
As the tariff increases price of imported corn, demand for corn in Cornland decreases from 24
bushels of corn to 21 bushels of corn. At the higher price, domestic supply of corn increases
from 0 to 3 bushels of corn. The imported amount of corn is therefore,

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Imported amount=21−3
¿ 18
Question 3
a. Terms-of trade argument for protection
The terms of trade argument of protectionism suggest that welfare of a nation can be
improved by adapting restrictive trade practices. The argument acknowledges the fact that
welfare to the world decreases from protectionists measures as gains to home country are offset
by loss to other countries. Home country here gains at the expense of foreign countries. “The
terms-of-trade argument resembles many other arguments for protection in that the
protectionist policy is thus a beggar-my-neighbor policy” (Appleyard and Alfred).
b. Intra-industry trade
A new and increasingly recognized pattern of trade is the intra-industry trade. This refers
to the particular pattern of trade where countries import and export same category of product.
The concept of IIT differs from that of inter industry trade explaining export and import of
products belong to different industries. Traditional trade theory explains only inter-industry
trade. The new trade theory as proposed by IIT now plays an important role in explaining pattern
of international trade.
c. Factor price equalization theorem
The standard trade theory suggests that in autarky, difference in relative prices provide a
basis for trade. As countries engage in trade, prices adjust until relative prices becomes equal in
both the nations. The convergence of product prices is possible as the relative price of the good

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using the abundant factors increases with trade while the product that uses scarce factor reduces.
“This change in final product prices has implications for the prices of factors in both of the
participating countries as well, as was rigorously pointed out by Paul A. Samuelson in 1949”
(Appleyard and Alfred). The shift in production pattern after trade changes demand for both
labor and capital. If a country specializes in labor a labor-intensive good, demand for labor
increases along with increase in price of labor. Price of capital in contrast decline because of a
fall in capital demand. Reverse is te case in country specializes a capital intensive good.
Figure 2: Factor-price equalization with trade (case of labor abundant nation)
Question 4
Leontief paradox and Raymond Vernon’s product cycle theory
Wassily W. Leontief did the first major empirical test of H-O theorem and published the
result in 1953. In order to test validity of H-O theorem for United State, Leontief considered a
situation using data of 1947 where US lowered both export and import simultaneously by $1

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million each. Using relevant information Leontief attempted to estimate the capita –labor ratio
released from export and import. As US is generally considered as a capital abundant country,
the expectation was the K/L ratio for exports should be greater than K/L ratio of corresponding
imports. The finding however gives an opposite result. “The most important export industries
tended to have lower K/L ratios and higher labor requirements and lower capital
requirements per dollar of output than did the most important import-competing industries”
(Appleyard and Alfred). The contradictory findings of Leontief to the Hecksher-Ohlin theorem is
known as ‘Leontief Paradox’.
The product life cycle theory of Raymond Vernon was invented in the middle of 1960s.
This theory explained that at the early stage of production, labor and other necessary part
required for production generally come from the region where it was originally invented. As the
product is adapted in the world market, it starts to shifts away from the origin. There are
situations where the product becomes an imported item of country that invented it. Vernon
proposed the theory the explain failure of H-O theorem (Leontief Paradox) in United State using
the concept of dynamic comparative advantage (Abdelal, Blyth, and Craig). In the early stage of
production, US produces capital-intensive goods (Automobile, textile and apparel, electric
products etc.). Vernon suggested after reaching maturing and standardized product stage,
production might shift to the other nation. This causes United State or other developed nations
(capital-intensive) to import capital-intensive product.

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Question 5
Demand reversal in Heckscher-Ohlin model
One of the strong assumption of Heckscher-Ohlin model is that countries engage in
international trade have identical tastes and preferences. If this assumption does not hold, then it
is not possible to identify autarky price and direction of trade between the nations. This is
because tastes and preference of people affects value of the product in different ways. As shown
in figure (), the demand pattern in the two countries are so different that in country A, price of
the product (steel) that intensively uses its relatively abundant factor is larger than the price in
country B. As trade opens up, country ‘A’ exports clothes and imports steel as price of steel is
relatively lower in country B. This kind of trade pattern is opposite to that proposed by H-O
theorem. “The difference in the nature of demand between these two countries, with each
tending to prefer the good intensive in its physically abundant factor, has caused them to trade
in a manner opposite to that anticipated by the H-O analysis” (Appleyard and Alfred). Any
violation of the assumption of identical tastes and preference thus can reduce the ability of H-O
theorem to predict trade pattern and resulted movement of relative factor prices.
Figure 3: Demand Reversal in H-O model

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References
Abdelal, Rawi, Mark Blyth, and Craig Parsons, eds. Constructing the international economy.
Cornell University Press, 2015.
Appleyard, Dennis R, and Alfred J Field. International Economics / Dennis Appleyard, Alfred J.
Field, Jr. 9th ed. New York: McGraw-Hill, 2016.