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Answer to exercises

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Why does the Hong Kong Government impose duties on very few types of imports? p. 151 Discuss 12. Explain how the imposition of tariffs and quotas may restrict international trade and rotect domestic industries. p. 154 12. 2 'Free trade benefits everybody in an economy. ' Do you agree? Explain. Test yourself Refer to Fig. 12. 5. Explain why the supply curve after the imposition ofa unit tariff t is represented by the line abeg (Hint: Find out the quantities supplied at domestic prices below, equal to and above (Pw + t), respectively). p. 160 12. 3 Who would gain and who would lose under a quota? Fill in the following table with a in the appropriate box and account for them.

Lose Reasons The importing country which imposes a quota Consumers Producers of import-competing industries The government The exporting faces a quota Producers of exports How do trade barriers imposed on the exports of the mainland of China also adversely affect Hong Kong? pp. 173-176 Exercises Multiple Choice Questions Free trade A. benefits all domestic consumers and producers. B. benefits domestic consumers of imports but harms domestic producers of import- competing industries. C. benefits domestic consumers of exports but harms domestic producers of exports. D. arms all domestic consumers and producers. Which of the following descriptions about trade barriers is INCORRECT? A. A tariff is a ax imposed on imports. B. A quota is a maximum limit imposed on the quantity of imports. C. An export subsidy is a government grant on exports. D. Exchange control is the government control over exchange rates, i. e. the prices of foreign currencies in terms of domestic currency. Which of the following is an effect of a quota? A. A quota shifts the supply curve of the imported product upwards. B. A quota reduces both domestic consumption and domestic production.

C. A quota raises the quality of the imported product. D A quota raises the world price of the imported product. 4. Refer to the following diagram. The deadweight loss brought by a tariff is represented by A. Area (E + G). B. Area (H + D+ B). c. Area (B + q. Under the individual visit scheme, many individuals from the mainland of China travel to Hong Kong. This increases Hong Kongs (1) domestic exports of goods. (2) re-exports of goods. (3) exports of services. (4) imports of goods. A. (2) only B. (3) only C. (3) and (4) only D. (2) and (3) only 8.

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Which of the following descriptions about Hong Kongs attempts to face challenges in foreign trade is INCORRECT? A. Introduction of the Mandatory Provident Fund to improve the welfare of workers B. Improving productivity through capital investment as well as research and development C. Relocating land-intensive and labour-intensive production processes to the mainland of China and other low-cost economies D. Participating actively in international organisations and conferences to promote international trade Short Questions Country A imports Good X and exports Good Y.

Suppose the world price of Good X is lower than the domestic price of Good X in Country A under autarky. With the help of TWO diagrams, compare the situation without trade and the situation with trade and show the gains from trade. Do all domestic consumers and domestic producers benefit from trade? (8 marks) b**. Suppose the world price of Good Y is higher than the domestic price of Good Y in Country A under autarky. With the help of TWO diagrams, compare the situation domestic consumers and domestic producers benefit from trade? 8 marks) With the help of a diagram, illustrate why the imposition of a quota would benefit domestic producers but harm domestic consumers and bring a deadweight loss to an economy. (8 marks) Structured Questions Trade Organization, China has to reduce its tariff on cotton. Suppose the world price f cotton remains unchanged after the tariff reduction. a. With the help ofa diagram, illustrate how the reduction in the tariff affects the domestic price, domestic consumption, domestic production and volume of imports of cotton. (7 marks) b.

How does the tariff reduction affect the consumer surplus, producer surplus, government revenue and total social surplus? (5 marks) a. Compare the effects of an increase in domestic demand on the domestic price, domestic consumption, domestic production and volume of imports if a country imposes a tariff and a quota on its imports, respectively. 12 marks) b. Would consumers prefer a tariff or a quota in the above situation? (2 marks) Answers p. 150 1. They mainly want to cut the volume of imports so as to protect their domestic industries. Moreover, imposition of duties on imported goods may raise government revenue. . The imposition of duties will raise the domestic price of imported goods, reduce the volume of imports, lower the consumer surplus of domestic consumers, but increase the producer surplus of domestic producers. 3. Many of Hong Kongs imports do not have domestic substitutes, e. g. , water, food, raw materials. Moreover, the image of a free port facilitates Hong Kong's negotiation with its trading partners to reduce their trade barriers. On the whole, free trade brings more benefit than harm to Hong Kong. p. 151 Discuss 12. 1 After tariffs are imposed, the domestic prices of imports rise.

By the law of demand, people will buy fewer units of imports. After the imposition of quotas, the maximum quantities of imports allowed are smaller than the equilibrium quantities. As a result, the quantities of imports will drop. As people buy fewer units of imports, they buy more units of domestic goods as substitutes for imports. Hence, domestic industries are protected. p. 154 Discuss 12. 2 No. With free trade, domestic prices drop and domestic consumption rises. As a result, the consumer surplus increases, as illustrated by Area (C + E) in Fig. 12. 3.

Hence, domestic consumers of imports gain. However, domestic prices drop and domestic production falls. As a result, the producer surplus decreases, as illustrated by Area C Therefore, free trade does not benefit everybody. However, on the whole, as consumers' gains are greater than producers' losses, the total social surplus increases, as illustrated by Area E in Fig. 12. 3. Test Yourself 12. 1 At domestic prices below (Pw + t), since the price cannot cover the cost [i. e. the world price (PW) plus tariff (t)], importers are not willing to supply the good.

Only domestic producers with MC domestic price will supply. This portion of the supply curve is represented by line segment ae. Since the domestic economy is a small open economy, it cannot affect the world price (PW) no matter how many units it imports. At the domestic price of (Pw + t), since the price can cover the (constant) cost, importers are willing to supply as many units as consumers desire without raising the price. Even if demand increases, the domestic price will not rise above (Pw + t). Hence, the supply curve turns horizontal at Point e (represented by line segment eg).

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