TBChap 006

Chapter 06
International Trade Theory
True / False Questions
1. The theories of Smith and Ricardo show that countries should not engage in international trade for
products that it is able to produce for itself.
True False
2. Porter's theory of national competitive advantage recommends unrestricted free trade between
countries.
True False
3. Heckscher-Ohlin theory supports the case for unrestricted free trade between nations.
True False
4. Mercantilist doctrine advocates unrestricted free trade between countries.
True False
5. A country has an absolute advantage in the production of a product when it is more efficient than any
other country in producing it.
True False
6. According to Ricardo's theory of comparative advantage, countries shall not produce a good, even if
they have an absolute advantage in its production, if they do not produce it efficiently.
True False
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Education.
7. The simple model of free trade assumed away transportation costs between countries.
True False
8. Resources always move easily from one economic activity to another.
True False
9. The production possibility frontier will be parabolic if constant return to specialization is observed.
True False
10. Diminishing returns show that it is feasible for a country to specialize to the degree suggested by the
simple Ricardian model.
True False
11. According to Paul Samuelson's critique, a poor country will rapidly improve its productivity if a rich
country enters into a free trade agreement with it.
True False
12. A rich country improves its productivity by engaging in free trade with a poor country. This situation
supports Paul Samuelson's critique.
True False
13. Factor endowments refer to the extent to which a country is gifted with such resources as land, labor,
and capital.
True False
14. Heckscher-Ohlin theory stresses that comparative advantage arises from differences in productivity.
True False
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15. Ricardo's theory makes fewer simplifying assumptions compared to Heckscher-Ohlin theory.
True False
16. A key assumption in the Heckscher-Ohlin theory is that technologies are the same across countries.
True False
17. The product life-cycle theory argues that the developing nations will not produce a product if the
product is highly standardized.
True False
18. Some of the arguments made by the product life-cycle theory seem ethnocentric and increasingly
dated when viewed from an Asian or European perspective.
True False
19. Companies that trade small volumes of product can benefit from economies of scale.
True False
20. First-mover advantages are the economic and strategic advantages that accrue to early entrants into
an industry.
True False
21. According to the new trade theory, firms that establish a first-mover advantage with regard to the
production of a particular new product may subsequently dominate global trade in that product.
True False
22. New trade theorists stress the role of luck in giving a firm first-mover advantages.
True False
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23. From a profit perspective, it makes sense for firms to disperse their productive activities to those
countries where they can be performed most efficiently.
True False
Multiple Choice Questions
24. _____ refers to a situation where a government does not attempt to influence through quotas or duties
what its citizens can buy from another country.
A. Fair trade
B. Trade theory
C. Free trade
D. Mercantilism
25. David Ricardo's theory of comparative advantage explains:
A. domestic trade in terms of international differences in political environments.

B. international trade in terms of international differences in political environments.
C. domestic trade in terms of international differences in labor productivity.
D. international trade in terms of international differences in labor productivity.
26. _____ stresses that in some cases countries specialize in the production and export of particular
products because the world market can support only a limited number of firms.
A. New trade theory

B. Absolute advantage
C. The world market theory
D. Mercantilism
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27. _____ supports the idea that countries should export more than what they import.
A. Absolute advantage
B. Mercantilism
D. New trade theory
28. The principle of mercantilism views trade as a(n) _____ game.
A. advantage
B. positive-sum
C. zero-sum
D. negative-sum
29. _____ argued that countries should specialize in the production of goods for which they have an
absolute advantage.
A. Paul Krugman
B. David Hume
C. David Ricardo
D. Adam Smith
30. According to Ricardo's theory of comparative advantage, countries should:
A. specialize in the production of those goods that it produces most efficiently.

B. specialize in the production of those goods that their competitors in the world market currently
have monopolies on.
C. produce all the products for which they have an absolute advantage.
D. produce only the products for which they have an absolute advantage.
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31. The theory of comparative advantage suggests that trade is a _____ game in which all countries that
participate realize economic gains.
A. net-sum
B. positive-sum
C. zero-sum
D. negative-sum
32. The production possibility frontier will be _____ if constant return to specialization is observed.
A. convex
B. parabolic
C. a straight line
D. logarithmic
33. The simple comparative advantage model assumed that trade:
A. changes efficiency with which a country utilizes resources.

B. changes a country's stock of resources.
C. allows for dynamic changes in the marketplace.
D. does not change a country's stock of resources.
34. Paul Samuelson's critique argues that:
A. when a rich country enters into a free trade agreement with a poor country, only the poor country
benefits from the relationship.
B. trade is a positive-sum game in which all countries that participate realize economic gains.
C. when a rich country enters into a free trade agreement with a poor country, only the rich country
benefits from the relationship.
D. trade is a net-sum game in which all countries that participate realize economic gains.
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35. The Heckscher-Ohlin theory predicts that countries will:
A. export those goods that make intensive use of factors that are locally scarce.
B. export those goods that make intensive use of factors that are locally abundant.
C. import those goods that make intensive use of factors that are locally abundant.
D. import those goods that make intensive use of factors that are available world-wide.
36. The _____ theory argues that the pattern of international trade is determined by differences in factor
endowments.
A. comparative advantage
B. Leontief Paradox
C. Heckscher-Ohlin
D. absolute advantage
37. A capital intensive country exports products that are capital intensive. Which theory is this an example
of?
A. New trade
B. Leontief Paradox
C. Porter Diamond Model
D. Heckscher-Ohlin
38. The _____ argues that a large proportion of the world's new products had been developed by U.S.
firms.
A. product life-cycle theory

B. Porter Diamond Model
C. new trade theory
D. Leontief Paradox
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39. _____ are unit cost reductions associated with a large scale of output.
A. Current account deficits

B. Economies of scale
C. Current account surpluses
D. Factor endowments
40. The variety of goods that a country can produce is limited by the size of the market in industries where
_____ are important.
A. factor endowments
B. current account deficits
C. economies of scale
D. current account surpluses
41. New trade theory suggests that nations:
A. increase their commitment to research and development.

B. adopt policies that promote strong competition within domestic markets.
C. cannot benefit from trade when they do not differ in resource endowments or technology.
D. may benefit from trade even when they do not differ in resource endowments or technology.
42. The theories of international trade claim that promoting free trade is generally in the best interests of:
A. a country, although it may not always be in the best interest of an individual firm.
B. all multinational corporations.
C. an individual firm, although it may not always be in the best interest of a country.
D. the World Trade Organization.
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43. Porter contends that government:
A. can influence the domestic demand conditions and the domestic rivalry components of the
diamond, but not the other two components.
B. can influence each of the four components of the diamond either positively or negatively.
C. can influence the factor endowments and the related and supporting industries components of the
D. has little or no effect on the four components that shape the environment in which firms compete.
44. Which of the following refers to a situation where a government does not attempt to influence
through quotas or duties what its citizens can buy from another country?
A. Economic patriotism
B. Protectionism
C. Free trade
D. Offshoring
45. Which of the following is a major benefit of engaging in free trade?
A. It helps to reduce the financial volatility in global markets.

B. It helps the countries protect the jobs that are available to their citizens.
C. It gives countries access to products that they cannot produce.
D. It allows the governments to exert more control on businesses.
46. David Ricardo's theory of comparative advantage explains global trade in terms of the:
A. first mover advantage that certain countries and firms enjoy.

B. geographical differences between various countries.
C. international differences in labor productivity.
D. late mover advantage that certain countries and firms possess.
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47. Which of the following theories emphasizes the interplay between the proportions in which the factors
of production are available in different countries and the proportions in which they are needed for
producing particular goods?
A. Porter's theory
B. Smith's theory
C. Ricardo's theory
D. Heckscher-Ohlin theory
48. Identify the theory that supports the view that, in some cases, countries export for the reason that the
world market can support only a limited number of firms.
A. Heckscher-Ohlin theory
B. Smith's theory
C. Ricardo's theory
D. New trade theory
49. Country A exports electronic goods from Country B although there are no underlying differences in
factor endowments between the two countries. Which of the following theories explains this anomaly?
A. Comparative advantage theory

B. New trade theory
C. Ricardo's theory
D. Smith's theory
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50. Which of the following observations is consistent with Michael Porter's theory of national competitive
advantage?
A. Factors such as domestic demand and domestic rivalry determine nations' dominance on
production.
B. Countries should produce only those goods for which they have a comparative advantage.
C. Interplay between the factors of production cause international marketing decisions.
D. International differences in labor productivity determine nations' supremacy in production.
51. Which of the following is a theory that can be used to justify limited government intervention to
support the development of certain export-oriented industries?

B. Ricardo's theory
C. New trade theory
52. Which of the following is the main principle of mercantilism?
A. Protection of domestic industries is not essential for a nation's welfare.

B. Government intervention is not required in global trade.
C. Countries should encourage absolute free trade.
D. It is in a country's best interests to maintain a trade surplus.
53. Which of the following is a major flaw associated with mercantilism?
A. Mercantilists do not support government intervention in trade.

B. Mercantilists view trade as a zero-sum game.
C. Mercantilists recommend policies to maximize imports.
D. Mercantilists recommend countries to maintain a negative trade balance.
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54. A country has an absolute advantage in the production of a product when it:
A. has the capability to produce the product within its boundaries.

B. is more efficient than any other country in producing it.
C. has the largest domestic demand for the product.
D. has access to the raw materials needed to produce the product.
55. According to Adam Smith, a country should specialize in the production of a good when it has:
A. an absolute advantage in the production of the good.

B. a strong domestic demand for the good.
C. the ability to help country increase its national output.
D. the necessary raw materials for production.
56. Country A can produce product X, but it can also buy it at a cheap rate from Country B. Which of the
following courses of action is suitable in this situation according to Adam Smith's theory of absolute
advantage?
A. Country A should import product X from country B and it should not attempt to produce it at
home.
B. Country A should partly import the product and produce it domestically.
C. Country A should produce more of product X and should attempt to obtain an absolute advantage
for the product.
D. Country A should subsidize the production of product X to obtain an absolute advantage over
country B.
57. According to Ricardo's theory of comparative advantage, a country should produce goods:
A. for which it has access to raw materials.

B. that it produces most efficiently.
C. that have the highest domestic demand.
D. for which it has an absolute advantage.
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58. Which of the following is a statement that supports the theory of comparative advantage?
A. International trade is a zero-sum gain where one nation's gain is another's loss.
B. Domestic industries are at risk when a country engages in free trade.
C. A country should maintain trade surplus to succeed in global trade.
D. Global production is greater with free trade than it is with restricted trade.
59. The theory of comparative advantage provides strong rationale for supporting the idea of _____.
A. business nationalism
B. free trade
C. protectionism
D. governmental intervention in trade
60. Diminishing returns to specialization occurs when:
A. each additional unit is produced with lesser number of laborers.

B. a nation's gross domestic product declines for a few years.
C. production possibility frontier appears as a rectangle.
D. more units of resources are required to produce each additional unit.
61. Which of the following is a major limitation of the simple Ricardian model of comparative advantage?
A. The model ignores the principle of diminishing marginal returns.

B. The model recommends excessive governmental intervention in trade.
C. The outcome of the model suggested by Ricardo is a zero-sum game.
D. The model is against the idea of engaging in free trade with nations.
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62. What will happen, according to Paul Samuelson's critique, if a rich country enters into a free trade
agreement with a poor country?
A. Both the countries will incur losses due to the exchanges between them.
B. The productivity of the poor country will decline rapidly.
C. The poor country will rapidly improve its productivity.
D. Both the countries will garner benefits from the exchanges between them.
63. Which of the following arguments supports the Paul Samuelson's critique?
A. A rich country cannot produce net gains by engaging in free trade with a poor country.
B. Governmental intervention will reduce the likeliness of countries' economic success.
C. Countries should attempt to specialize in the production of goods and services.
D. Trade is a positive-sum game in which all countries that participate realize economic gains.
64. Which of the following terms refers to the extent to which a country is gifted with such resources as
land, labor, and capital?
A. Current accounts
B. Factor endowments
C. National balance
D. National accounts
65. Identify the theory that predicts that countries will export those goods that make intensive use of
factors that are locally abundant.
A. Theory of comparative advantage

B. Ricardo theory
C. New trade theory
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66. Which of the following is the reason why most economists prefer Heckscher-Ohlin theory to Ricardo's
theory?
A. Heckscher-Ohlin stresses on the differences in productivity between nations.

B. Ricardo's theory considers factor endowments to describe national competitiveness.
C. Heckscher-Ohlin theory makes fewer simplifying assumptions.
D. Ricardo's theory considers the law of marginal returns.
67. Which of the following statements is true of the Leontief Paradox?
A. It shows an anomaly that occurs when a nation has high domestic demand for a product.
B. It explains the relationship between domestic demand and comparative advantage.
C. It disproved Ricardo's theory of comparative advantage.
D. It raised questions about the validity of the Heckscher-Ohlin theory.
68. Identify the theory that argues that advanced nations have an incentive to develop a new offering and
hence such nations always tend to create a good or service for the first time.
B. Ricardo
C. Product life-cycle
D. Heckscher-Ohlin
69. Country X, a poor country, invents a revolutionary electronic product. The country markets this new
product in other poor countries to garner large profits. This occurrence is against the idea of ____.

B. Ricardo's theory
C. theory of absolute advantage
D. theory of comparative advantage
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70. Which of the following is a major disadvantage of the product life-cycle theory introduced by Vernon?
A. The theory's arguments seem ethnocentric and increasingly dated.

B. The theory failed to explain the dominance of developed nations.
C. The theory applies only when a poor nation invents a new product.
D. The theory cannot be used to explain the production of luxury products.
71. Which of the following terms refers to the unit cost reductions associated with large sized outputs?
A. Absolute advantage of production

C. Constant marginal returns
D. Diminishing marginal returns
72. Wal-Mart makes bulk purchases from its vendors and hence it is able to get better deals than its
competitors. This allows Wal-Mart to offer greater discounts to its customers. In this case, Wal-Mart
benefits from _____.
A. first-mover advantage
B. constant marginal returns
D. absolute advantage of production
73. Company A entered the production of office software before its competitors. Because of this, the
company's products are more familiar among and favored by customers. This situation exemplifies the
_____.
B. diminishing marginal returns
D. constant marginal returns
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74. Which of the following theories suggests that first mover advantage is significant in the export of a
good?
A. Product life-cycle theory

B. Ricardo's theory
C. New trade theory
D. Theory of comparative advantage
75. Which of the following theories stress the role of luck, entrepreneurship, and innovation in the
production and export of a good or service by the firms in a country?

B. Ricardo's theory
C. Theory of comparative advantage
D. New trade theory
76. Which of the following is one of the four attributes present in Porter's diamond?
A. Economies of scale
C. Structural innovation
D. Procedural innovation
77. Which of the following is an example of a basic factor that a nation will possess as proposed by
Porter?
A. Communication infrastructure
B. Skilled labor
C. Natural resources
D. Technological knowledge
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78. Which of the following factors, according to Porter's national Diamond, is most likely to give a country
competitive advantage over another country?
A. Natural resources
B. Climate
C. Skilled labor
D. Demographics
79. Porter argues that a nation's firms gain competitive advantage if:
A. their domestic consumers lack technical awareness

B. they function in a labor intensive market
C. the country has abundant supply of unskilled workers
D. their domestic consumers are demanding
80. Textile industry in a nation is characterized by vigorous domestic rivalry. Which of the following
observations of this nation's international competency is most likely to be true?
A. The nation will have access to such basic factors of textile industry as natural resources.
B. The nation's textile firms will have a competitive advantage in international trade.
C. The domestic customers of the textile firms will be less demanding.
D. The nation's textile industry will lack the advanced factors that are necessary to be internationally
competent.
81. A country's balance-of-payments accounts keep track of the:
A. basic factor endowments and advanced factor endowments that the nation possesses.
B. payments to and receipts from other countries for a particular time period.
C. income taxes paid by domestic firms and the spending on the firms.
D. total value of taxes paid by domestic firms and the spending on the firms.
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82. Which of the following balance-of-payment accounts records one-time changes in the stock of
assets?
A. Capital account
B. Current account
C. Financial account
D. Monetary account
83. Which of the following accounts records transactions that involve the purchase or sale of assets?
A. Capital account
B. Current account
C. Principal account
D. Financial account
84. When a country runs a current account deficit, what happens to the money that flows to other
countries?
A. It is used to buy assets in the deficit country.

B. It is put into the receiving country's infrastructure.
C. It is converted to securities.
D. It is used to pay for social programs in the receiving country.
85. If foreigners suddenly reduced their investments in the United States, what would happen?
A. The value of the dollar on foreign exchange markets would increase.

B. The action would have no impact on the U.S. economy.
C. The foreigners would sell U.S. dollars for another currency.
D. The price of U.S. exports would increase.
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86. The main tenet of mercantilism is that it is in a country's best interests to:
A. maintain a trade deficit.

B. maintain a trade surplus.
C. Import goods made from products that it does not have in abundance.
D. import more than it exports.
A. It viewed trade as a positive-sum game.

B. It relied on government to support trade.
C. It viewed trade as a zero-sum game.
D. It relied on tenuous free trade agreements.
88. Factor endowments refer to the extent to which a country:
A. supports education, research, and development.

B. develops the infrastructure to support industrialism.
C. supports free trade.
D. is endowed with such resources as land, labor, and capital.
89. The _____ theory was based on the observation that for most of the twentieth century a very large
proportion of the world's new products had been developed by U.S. firms and sold first in the U.S.
market.
A. product life-cycle
B. Heckscher-Ohlin
C. new trade
D. Ricardo
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90. Economies of scale have a number of sources, including the ability:
A. to average out the variable costs of production.

B. of large-volume producers to utilize specialized employees and equipment.
C. to adjust the scale of production based upon product saturation in the marketplace.
D. of to utilize non-specialized employees interchangeably.
91. One of the advantages of being the first mover in a market is:
A. there is little risk involved.

B. to benefit from a higher cost structure.
C. the ability to capture scale economies ahead of later entrants.
D. local governments are more favorable to the first movers.
92. Which of the following is true regarding Porter's Diamond theory?
A. It predicts that countries should be importing products from those industries where all four
components of the diamond are favorable.
B. Porter's theory has been proven to be an accurate predictor of the importing and exporting
patterns of countries.
C. It predicts that countries should be exporting products from those industries where all four
components of the diamond those areas where the components are not favorable.
D. Porter's theory has not been subjected to detailed empirical testing, so we do not know if it is
correct.
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93. Underlying most of the trade theories discussed is the notion that:
A. different countries have particular advantages in different productive activities.

B. firms that establish a first-mover advantage with regard to the production of a particular new
product will dominate global trade in that product.
C. it usually makes sense for a firm to consolidate its productive activities in one country.
D. despite a pivotal role in international trade, businesses are typically unable to influence government
trade policy.
Essay Questions
94. Explain the concept of free trade.
95. How does the Heckscher-Ohlin theory explain international trade?
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96. Explain how the theories of trade differ in terms of their support to governmental intervention.
97. Explain Smith's theory of absolute advantage.
98. Explain Ricardo's theory of comparative advantage.
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99. What are the assumptions that we make when we discuss a simple Ricardian model to support free
trade?
100. Briefly differentiate between constant returns to specialization and diminishing returns to
specialization.
101. Explain how the principle of diminishing returns weakens the Ricardian model.
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102. Explain the dynamic gains that are generated by opening an economy to trade.
103. Explain the Paul Samuelson's critique.
104. Identify a major disadvantage of the product life-cycle theory.
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105. Do you think a new trade theorist would stress the role of luck and entrepreneurship? Explain.
106. What are the four attributes that are discussed in Porter's diamond?
107. Explain how the rivalry within an industry affects international competence.
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Chapter 06 International Trade Theory Answer Key
True / False Questions
1. The theories of Smith and Ricardo show that countries should not engage in international trade for
products that it is able to produce for itself.
FALSE
The theories of Smith, Ricardo, and Heckscher-Ohlin show why it is beneficial for a country to
engage in international trade even for products it is able to produce for itself.
AACSB: Knowledge Application

Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 06-01 Understand why nations trade with each other.
Topic: Trade Theories and Their Implications
2. Porter's theory of national competitive advantage recommends unrestricted free trade between
countries.
FALSE
Porter's theory of national competitive advantage can be interpreted as justifying some limited
government intervention to support the development of certain export-oriented industries.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Topic: Porter's Diamond Model
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Education.
3. Heckscher-Ohlin theory supports the case for unrestricted free trade between nations.
TRUE
The theories of Smith, Ricardo, and Heckscher-Ohlin support the case for unrestricted free trade.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
4. Mercantilist doctrine advocates unrestricted free trade between countries.
FALSE
Mercantilist doctrine advocated government intervention to achieve a surplus in the balance of

trade.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 06-02 Summarize the different theories explaining trade flows between nations.
Topic: Mercantilism
5. A country has an absolute advantage in the production of a product when it is more efficient than
any other country in producing it.
TRUE
A country has an absolute advantage in the production of a product when it is more efficient than

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Education.
Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Topic: Mercantilism
6. According to Ricardo's theory of comparative advantage, countries shall not produce a good, even
if they have an absolute advantage in its production, if they do not produce it efficiently.
TRUE
According to Ricardo's theory of comparative advantage, it makes sense for a country to specialize
in the production of those goods that it produces most efficiently and to buy the goods that it
produces less efficiently from other countries even if the country has an absolute advantage over its
production.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
7. The simple model of free trade assumed away transportation costs between countries.
TRUE
The simple model of free trade assumed away transportation costs between countries.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 06-03 Recognize why many economists believe that unrestricted free trade between nations will raise the
economic welfare of countries that participate in a free trade system.
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Education.
8. Resources always move easily from one economic activity to another.
FALSE
Resources do not always move easily from one economic activity to another.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
9. The production possibility frontier will be parabolic if constant return to specialization is observed.
FALSE
Constant returns to specialization mean that the units of resources required to produce a good are
assumed to remain constant no matter where one is on a country's production possibility frontier.
Thus the production possibility frontier will be a straight line.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
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Education.
10. Diminishing returns show that it is feasible for a country to specialize to the degree suggested by
the simple Ricardian model.
FALSE
Diminishing returns show that it is not feasible for a country to specialize to the degree suggested
by the simple Ricardian model.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
11. According to Paul Samuelson's critique, a poor country will rapidly improve its productivity if a rich
country enters into a free trade agreement with it.
TRUE
Paul Samuelson's critique argues that when a rich country enters into a free trade agreement with a
poor country, there will be a dynamic gain in the efficiency with which resources are used in the
poor country. The poor country's productivity will improve rapidly.

Blooms: Remember
Difficulty: 2 Medium
Gradable: automatic
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Education.
12. A rich country improves its productivity by engaging in free trade with a poor country. This
situation supports Paul Samuelson's critique.
FALSE
poor country, only the poor country benefits from the relationship.

Blooms: Understand
Gradable: automatic
13. Factor endowments refer to the extent to which a country is gifted with such resources as land,
labor, and capital.
TRUE
Factor endowments refer to the extent to which a country is endowed with such resources as land,
labor, and capital.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
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Education.
14. Heckscher-Ohlin theory stresses that comparative advantage arises from differences in
productivity.
FALSE
Unlike Ricardo's theory, however, the Heckscher-Ohlin theory argues that the pattern of
international trade is determined by differences in factor endowments, rather than differences in
productivity.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
15. Ricardo's theory makes fewer simplifying assumptions compared to Heckscher-Ohlin theory.
FALSE
Most economists prefer the Heckscher-Ohlin theory to Ricardo's theory because it makes fewer
simplifying assumptions.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
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Education.
16. A key assumption in the Heckscher-Ohlin theory is that technologies are the same across
countries.
TRUE
A key assumption in the Heckscher-Ohlin theory is that technologies are the same across countries.

Blooms: Understand
Gradable: automatic
17. The product life-cycle theory argues that the developing nations will not produce a product if the
product is highly standardized.
FALSE
The product life-cycle theory argues that the developing nations will produce a product only when
the product becomes highly standardized.

Blooms: Understand
Gradable: automatic
Topic: Factor Proportions and International Product Life Cycle Theories
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18. Some of the arguments made by the product life-cycle theory seem ethnocentric and increasingly
dated when viewed from an Asian or European perspective.
TRUE
Viewed from an Asian or European perspective, the theory's argument that most new products are
developed and introduced in the United States seems ethnocentric and increasingly dated.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
19. Companies that trade small volumes of product can benefit from economies of scale.
FALSE
Economies of scale are unit cost reductions associated with a large scale of output. This means that
companies that trade in large volumes benefit from the economies of scale.

Blooms: Understand
Gradable: automatic
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20. First-mover advantages are the economic and strategic advantages that accrue to early entrants
into an industry.
TRUE
First mover advantages are the economic and strategic advantages that accrue to early entrants
into an industry.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
21. According to the new trade theory, firms that establish a first-mover advantage with regard to the
TRUE
According to the new trade theory, firms that establish a first-mover advantage with regard to the

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 06-05 Understand the important implications that international trade theory holds for business practice.
6-36
Education.
22. New trade theorists stress the role of luck in giving a firm first-mover advantages.
TRUE
New trade theorists stress the role of luck, entrepreneurship, and innovation in giving a first-mover
advantages.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 06-04 Explain the arguments of those who maintain that government can play a proactive role in promoting
national competitive advantage in certain industries.
23. From a profit perspective, it makes sense for firms to disperse their productive activities to those
countries where they can be performed most efficiently.
TRUE
Underlying most trade theories is the notion that different countries have particular advantages in
different productive activities. Thus, from a profit perspective, it makes sense for a firm to disperse
its productive activities to those countries where, according to the theory of international trade,
they can be performed most efficiently.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Multiple Choice Questions
6-37
Education.
24. _____ refers to a situation where a government does not attempt to influence through quotas or
duties what its citizens can buy from another country.
A. Fair trade
B. Trade theory
C. Free trade
D. Mercantilism
Free trade refers to a situation where a government does not attempt to influence through quotas
or duties what its citizens can buy from another country, or what they can produce and sell to
another country.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
25. David Ricardo's theory of comparative advantage explains:
A. domestic trade in terms of international differences in political environments.

B. international trade in terms of international differences in political environments.
C. domestic trade in terms of international differences in labor productivity.
D. international trade in terms of international differences in labor productivity.
David Ricardo's theory of comparative advantage explains international trade in terms of

international differences in labor productivity.

Blooms: Apply
Gradable: automatic
6-38
Education.
26. _____ stresses that in some cases countries specialize in the production and export of particular
products because the world market can support only a limited number of firms.
A. New trade theory

B. Absolute advantage
D. Mercantilism
New trade theory stresses that in some cases countries specialize in the production and export of
particular products not because of underlying differences in factor endowments, but because in
certain industries the world market can support only a limited number of firms.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
27. _____ supports the idea that countries should export more than what they import.
B. Mercantilism
D. New trade theory
The main tenet of mercantilism was that it is in a country's best interests to maintain a trade
surplus, to export more than it imported.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
6-39
Education.
Topic: Mercantilism
28. The principle of mercantilism views trade as a(n) _____ game.
A. advantage
B. positive-sum
C. zero-sum
D. negative-sum
The flaw with mercantilism was that it viewed trade as a zero-sum game.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Topic: Mercantilism
29. _____ argued that countries should specialize in the production of goods for which they have an
absolute advantage.
A. Paul Krugman
B. David Hume
C. David Ricardo
D. Adam Smith
According to Smith, countries should specialize in the production of goods for which they have an
absolute advantage and then trade these for goods produced by other countries.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
6-40
Education.
30. According to Ricardo's theory of comparative advantage, countries should:
A. specialize in the production of those goods that it produces most efficiently.

B. specialize in the production of those goods that their competitors in the world market currently
have monopolies on.
C. produce all the products for which they have an absolute advantage.
D. produce only the products for which they have an absolute advantage.
produces less efficiently from other countries.

Blooms: Apply
Gradable: automatic
31. The theory of comparative advantage suggests that trade is a _____ game in which all countries that
participate realize economic gains.
A. net-sum
B. positive-sum
C. zero-sum
D. negative-sum
The theory of comparative advantage suggests that trade is a positive-sum game in which all
countries that participate realize economic gains.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
6-41
Education.
32. The production possibility frontier will be _____ if constant return to specialization is observed.
A. convex
B. parabolic
C. a straight line
D. logarithmic
Constant returns to specialization means that the units of resources required to produce a good
(cocoa or rice) are assumed to remain constant no matter where one is on a country's production
possibility frontier (PPF). In this case, the PPF will be a straight line.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
33. The simple comparative advantage model assumed that trade:
A. changes efficiency with which a country utilizes resources.

B. changes a country's stock of resources.
C. allows for dynamic changes in the marketplace.
D. does not change a country's stock of resources.
The simple comparative advantage model assumed that trade does not change a country's stock of
resources or the efficiency with which it utilizes those resources.

Blooms: Apply
Gradable: automatic
6-42
Education.
34. Paul Samuelson's critique argues that:
A. when a rich country enters into a free trade agreement with a poor country, only the poor
country benefits from the relationship.
B. trade is a positive-sum game in which all countries that participate realize economic gains.
C. when a rich country enters into a free trade agreement with a poor country, only the rich
country benefits from the relationship.
D. trade is a net-sum game in which all countries that participate realize economic gains.

Blooms: Apply
Gradable: automatic
35. The Heckscher-Ohlin theory predicts that countries will:
A. export those goods that make intensive use of factors that are locally scarce.
B. export those goods that make intensive use of factors that are locally abundant.
C. import those goods that make intensive use of factors that are locally abundant.
D. import those goods that make intensive use of factors that are available world-wide.
The Heckscher-Ohlin theory predicts that countries will export those goods that make intensive use
of factors that are locally abundant, while importing goods that make intensive use of factors that
are locally scarce.
6-43
Education.
Blooms: Apply
Gradable: automatic
36. The _____ theory argues that the pattern of international trade is determined by differences in factor
endowments.
A. comparative advantage
B. Leontief Paradox
C. Heckscher-Ohlin
D. absolute advantage
The Heckscher-Ohlin theory argues that the pattern of international trade is determined by
differences in factor endowments.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
37. A capital intensive country exports products that are capital intensive. Which theory is this an
example of?
A. New trade
B. Leontief Paradox
C. Porter Diamond Model
D. Heckscher-Ohlin
The given situation follows the Heckscher-Ohlin theory.
6-44
Education.
Blooms: Apply
Gradable: automatic
38. The _____ argues that a large proportion of the world's new products had been developed by U.S.
firms.

B. Porter Diamond Model
C. new trade theory
D. Leontief Paradox
The product life-cycle theory argues that a large proportion of the world's new products had been
developed by U.S. firms.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
39. _____ are unit cost reductions associated with a large scale of output.
A. Current account deficits

C. Current account surpluses
D. Factor endowments
Economies of scale are unit cost reductions associated with a large scale of output.

Blooms: Remember
6-45
Education.
Difficulty: 1 Easy
Gradable: automatic
40. The variety of goods that a country can produce is limited by the size of the market in industries
where _____ are important.
A. factor endowments
B. current account deficits
D. current account surpluses
In industries where economies of scale are important, both the variety of goods that a country can
produce and the scale of production are limited by the size of the market.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
41. New trade theory suggests that nations:
A. increase their commitment to research and development.

B. adopt policies that promote strong competition within domestic markets.
C. cannot benefit from trade when they do not differ in resource endowments or technology.
D. may benefit from trade even when they do not differ in resource endowments or technology.
New trade theory suggests that nations may benefit from trade even when they do not differ in
resource endowments or technology.

6-46
Education.
Blooms: Apply
Gradable: automatic
42. The theories of international trade claim that promoting free trade is generally in the best interests
of:
A. a country, although it may not always be in the best interest of an individual firm.
B. all multinational corporations.
C. an individual firm, although it may not always be in the best interest of a country.
D. the World Trade Organization.
The theories of international trade claim that promoting free trade is generally in the best interests
of a country, although it may not always be in the best interest of an individual firm.

Blooms: Apply
Gradable: automatic
6-47
Education.
43. Porter contends that government:
A. can influence the domestic demand conditions and the domestic rivalry components of the
B. can influence each of the four components of the diamond either positively or negatively.
C. can influence the factor endowments and the related and supporting industries components of
the diamond, but not the other two components.
D. has little or no effect on the four components that shape the environment in which firms
compete.
Porter contends that government can influence each of the four components of the diamond—
factor endowments, domestic demand conditions, related and supporting industries, and domestic
rivalry—either positively or negatively.

Blooms: Apply
Gradable: automatic
44. Which of the following refers to a situation where a government does not attempt to influence
through quotas or duties what its citizens can buy from another country?
A. Economic patriotism
B. Protectionism
C. Free trade
D. Offshoring
another country.
6-48
Education.
Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
45. Which of the following is a major benefit of engaging in free trade?
A. It helps to reduce the financial volatility in global markets.

B. It helps the countries protect the jobs that are available to their citizens.
C. It gives countries access to products that they cannot produce.
D. It allows the governments to exert more control on businesses.
Countries can benefit from exchanging goods that they can produce efficiently to obtain products
that they cannot produce.

Blooms: Apply
Gradable: automatic
46. David Ricardo's theory of comparative advantage explains global trade in terms of the:
A. first mover advantage that certain countries and firms enjoy.

B. geographical differences between various countries.
C. international differences in labor productivity.
D. late mover advantage that certain countries and firms possess.
David Ricardo's theory of comparative advantage offers an explanation in terms of international

differences in labor productivity.

Blooms: Understand
6-49
Education.
Difficulty: 1 Easy
Gradable: automatic
47. Which of the following theories emphasizes the interplay between the proportions in which the
factors of production are available in different countries and the proportions in which they are
needed for producing particular goods?
A. Porter's theory
B. Smith's theory
C. Ricardo's theory
The Heckscher-Ohlin theory emphasizes the interplay between the proportions in which the factors
of production (such as land, labor, and capital) are available in different countries and the
proportions in which they are needed for producing particular goods.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
6-50
Education.
48. Identify the theory that supports the view that, in some cases, countries export for the reason that
the world market can support only a limited number of firms.
A. Heckscher-Ohlin theory
B. Smith's theory
C. Ricardo's theory
D. New trade theory

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
49. Country A exports electronic goods from Country B although there are no underlying differences in
factor endowments between the two countries. Which of the following theories explains this
anomaly?

B. New trade theory
C. Ricardo's theory
D. Smith's theory
AACSB: Analytical Thinking

Blooms: Apply
6-51
Education.
Gradable: automatic
50. Which of the following observations is consistent with Michael Porter's theory of national
competitive advantage?
A. Factors such as domestic demand and domestic rivalry determine nations' dominance on
production.
B. Countries should produce only those goods for which they have a comparative advantage.
C. Interplay between the factors of production cause international marketing decisions.
D. International differences in labor productivity determine nations' supremacy in production.
Michael Porter's theory of national competitive advantage attempts to explain why particular
nations achieve international success in particular industries. In addition to factor endowments,
Porter points out the importance of country factors such as domestic demand and domestic rivalry
in explaining a nation's dominance in the production and export of particular products.

Blooms: Analyze
Gradable: automatic
6-52
Education.
51. Which of the following is a theory that can be used to justify limited government intervention to
support the development of certain export-oriented industries?

B. Ricardo's theory
C. New trade theory
Both the new trade theory and Porter's theory of national competitive advantage can be
interpreted as justifying some limited government intervention to support the development of
certain export-oriented industries.

Blooms: Apply
Gradable: automatic
52. Which of the following is the main principle of mercantilism?
A. Protection of domestic industries is not essential for a nation's welfare.

B. Government intervention is not required in global trade.
C. Countries should encourage absolute free trade.
D. It is in a country's best interests to maintain a trade surplus.
The main tenet of mercantilism was that it was in a country's best interests to maintain a trade
surplus, to export more than it imported. By doing so, a country would accumulate gold and silver
and, consequently, increase its national wealth, prestige, and power.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
6-53
Education.
Topic: Mercantilism
A. Mercantilists do not support government intervention in trade.

B. Mercantilists view trade as a zero-sum game.
C. Mercantilists recommend policies to maximize imports.
D. Mercantilists recommend countries to maintain a negative trade balance.
The flaw with mercantilism was that it viewed trade as a zero-sum game. A zero-sum game is one
in which a gain by one country results in a loss by another.

Blooms: Understand
Gradable: automatic
Topic: Mercantilism
54. A country has an absolute advantage in the production of a product when it:
A. has the capability to produce the product within its boundaries.

B. is more efficient than any other country in producing it.
C. has the largest domestic demand for the product.
D. has access to the raw materials needed to produce the product.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
6-54
Education.
55. According to Adam Smith, a country should specialize in the production of a good when it has:
A. an absolute advantage in the production of the good.

B. a strong domestic demand for the good.
C. the ability to help country increase its national output.
D. the necessary raw materials for production.
According to Smith, countries should specialize in the production of goods for which they have an
absolute advantage and then trade these for goods produced by other countries.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
56. Country A can produce product X, but it can also buy it at a cheap rate from Country B. Which of
the following courses of action is suitable in this situation according to Adam Smith's theory of
absolute advantage?
A. Country A should import product X from country B and it should not attempt to produce it at
home.
B. Country A should partly import the product and produce it domestically.
C. Country A should produce more of product X and should attempt to obtain an absolute
advantage for the product.
D. Country A should subsidize the production of product X to obtain an absolute advantage over
country B.
Smith's basic argument is that a country should never produce goods at home that it can buy at a
lower cost from other countries.

Blooms: Apply
6-55
Education.
Gradable: automatic
57. According to Ricardo's theory of comparative advantage, a country should produce goods:
A. for which it has access to raw materials.

B. that it produces most efficiently.
C. that have the highest domestic demand.
D. for which it has an absolute advantage.
produces less efficiently from other countries, even if this means buying goods from other countries
that it could produce more efficiently itself.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
58. Which of the following is a statement that supports the theory of comparative advantage?
A. International trade is a zero-sum gain where one nation's gain is another's loss.
B. Domestic industries are at risk when a country engages in free trade.
C. A country should maintain trade surplus to succeed in global trade.
D. Global production is greater with free trade than it is with restricted trade.
The basic message of the theory of comparative advantage is that potential world production is
greater with unrestricted free trade than it is with restricted trade.

6-56
Education.
Blooms: Apply
Gradable: automatic
59. The theory of comparative advantage provides strong rationale for supporting the idea of _____.
A. business nationalism
B. free trade
C. protectionism
D. governmental intervention in trade
The theory of comparative advantage suggests that trade is a positive-sum game in which all
countries that participate realize economic gains. As such, this theory provides a strong rationale
for encouraging free trade.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
60. Diminishing returns to specialization occurs when:
A. each additional unit is produced with lesser number of laborers.

B. a nation's gross domestic product declines for a few years.
C. production possibility frontier appears as a rectangle.
D. more units of resources are required to produce each additional unit.
Diminishing returns to specialization occurs when more units of resources are required to produce
each additional unit.

6-57
Education.
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
61. Which of the following is a major limitation of the simple Ricardian model of comparative
advantage?
A. The model ignores the principle of diminishing marginal returns.

B. The model recommends excessive governmental intervention in trade.
C. The outcome of the model suggested by Ricardo is a zero-sum game.
D. The model is against the idea of engaging in free trade with nations.
Diminishing returns show that it is not feasible for a country to specialize to a great extent.
Ricardian model ignores this principle of diminishing returns.

Blooms: Analyze
Gradable: automatic
6-58
Education.
62. What will happen, according to Paul Samuelson's critique, if a rich country enters into a free trade
agreement with a poor country?
A. Both the countries will incur losses due to the exchanges between them.
B. The productivity of the poor country will decline rapidly.
C. The poor country will rapidly improve its productivity.
D. Both the countries will garner benefits from the exchanges between them.
poor country, there will be a dynamic gain in the efficiency with which resources are used in the
poor country. The poor country's productivity will improve rapidly.

Blooms: Apply
Gradable: automatic
63. Which of the following arguments supports the Paul Samuelson's critique?
A. A rich country cannot produce net gains by engaging in free trade with a poor country.
B. Governmental intervention will reduce the likeliness of countries' economic success.
C. Countries should attempt to specialize in the production of goods and services.
D. Trade is a positive-sum game in which all countries that participate realize economic gains.

Blooms: Apply
Gradable: automatic
6-59
Education.
64. Which of the following terms refers to the extent to which a country is gifted with such resources as
land, labor, and capital?
A. Current accounts
C. National balance
D. National accounts
labor, and capital.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
65. Identify the theory that predicts that countries will export those goods that make intensive use of
factors that are locally abundant.
A. Theory of comparative advantage

B. Ricardo theory
C. New trade theory
The Heckscher-Ohlin theory predicts that countries will export those goods that make intensive use
of factors that are locally abundant, while importing goods that make intensive use of factors that
are locally scarce.

Blooms: Understand
6-60
Education.
Difficulty: 1 Easy
Gradable: automatic
66. Which of the following is the reason why most economists prefer Heckscher-Ohlin theory to
Ricardo's theory?
A. Heckscher-Ohlin stresses on the differences in productivity between nations.

B. Ricardo's theory considers factor endowments to describe national competitiveness.
C. Heckscher-Ohlin theory makes fewer simplifying assumptions.
D. Ricardo's theory considers the law of marginal returns.
Most economists prefer the Heckscher-Ohlin theory to Ricardo's theory because it makes fewer
simplifying assumptions.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
67. Which of the following statements is true of the Leontief Paradox?
A. It shows an anomaly that occurs when a nation has high domestic demand for a product.
B. It explains the relationship between domestic demand and comparative advantage.
C. It disproved Ricardo's theory of comparative advantage.
D. It raised questions about the validity of the Heckscher-Ohlin theory.
Leontief Paradox raised questions about the validity of the Heckscher-Ohlin theory.

Blooms: Analyze
Gradable: automatic
6-61
Education.
68. Identify the theory that argues that advanced nations have an incentive to develop a new offering
and hence such nations always tend to create a good or service for the first time.
B. Ricardo
C. Product life-cycle
D. Heckscher-Ohlin
The theory argues that the wealth of such advanced countries as the United States gives them an
incentive to develop new consumer goods. Such nations always develop new products.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
69. Country X, a poor country, invents a revolutionary electronic product. The country markets this new
product in other poor countries to garner large profits. This occurrence is against the idea of ____.

B. Ricardo's theory
C. theory of absolute advantage
D. theory of comparative advantage
The theory argues that the wealth of such advanced countries as the United States gives them an
incentive to develop new consumer goods. The theory also argues that new products are always
introduced in developed nations.

Blooms: Apply
6-62
Education.
Difficulty: 3 Hard
Gradable: automatic
70. Which of the following is a major disadvantage of the product life-cycle theory introduced by
Vernon?
A. The theory's arguments seem ethnocentric and increasingly dated.

B. The theory failed to explain the dominance of developed nations.
C. The theory applies only when a poor nation invents a new product.
D. The theory cannot be used to explain the production of luxury products.
Vernon's argument that most new products are developed and introduced in the United States
seems ethnocentric and increasingly dated.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
71. Which of the following terms refers to the unit cost reductions associated with large sized outputs?
A. Absolute advantage of production

C. Constant marginal returns
D. Diminishing marginal returns
Economies of scale are unit cost reductions associated with a large scale of output.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
6-63
Education.
72. Wal-Mart makes bulk purchases from its vendors and hence it is able to get better deals than its
competitors. This allows Wal-Mart to offer greater discounts to its customers. In this case, Wal-Mart
benefits from _____.
B. constant marginal returns
D. absolute advantage of production
Economies of scale are unit cost reductions associated with a large scale of output. Here, Wal-Mart
is benefiting from the economies of scale.

Blooms: Apply
Gradable: automatic
73. Company A entered the production of office software before its competitors. Because of this, the
company's products are more familiar among and favored by customers. This situation exemplifies
the _____.
B. diminishing marginal returns
D. constant marginal returns
First mover advantages are the economic and strategic advantages that accrue to early entrants
into an industry.

6-64
Education.
Blooms: Apply
Gradable: automatic
74. Which of the following theories suggests that first mover advantage is significant in the export of a
good?

B. Ricardo's theory
C. New trade theory
D. Theory of comparative advantage
New trade theory suggests that a country may predominate in the export of a good simply because
it was lucky enough to have one or more firms among the first to produce that good. Because they
are able to gain economies of scale, the first movers in an industry may get a lock on the world
market that discourages subsequent entry.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
6-65
Education.
75. Which of the following theories stress the role of luck, entrepreneurship, and innovation in the
production and export of a good or service by the firms in a country?

B. Ricardo's theory
C. Theory of comparative advantage
D. New trade theory
New trade theory suggests that a country may predominate in the export of a good simply because
it was lucky enough to have one or more firms among the first to produce that good. New trade
theorists stress the role of luck, entrepreneurship, and innovation in giving a firm first mover
advantages.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
76. Which of the following is one of the four attributes present in Porter's diamond?
A. Economies of scale
C. Structural innovation
D. Procedural innovation
Porter theorizes four broad attributes of a nation shape the environment in which local firms
compete. These four factors are factor endowments, demand conditions, relating and supporting
industries, and firm strategy, structure, and rivalry.

Blooms: Remember
Difficulty: 1 Easy
6-66
Education.
Gradable: automatic
77. Which of the following is an example of a basic factor that a nation will possess as proposed by
Porter?
A. Communication infrastructure
B. Skilled labor
C. Natural resources
D. Technological knowledge
Such factors as natural resources, climate, location, and demographics are basic factors. Factors
such as communication infrastructure, sophisticated and skilled labor, research facilities, and
technological know-how are examples of and advanced factors.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
78. Which of the following factors, according to Porter's national Diamond, is most likely to give a
country competitive advantage over another country?
A. Natural resources
B. Climate
C. Skilled labor
D. Demographics
Factors such as communication infrastructure, sophisticated and skilled labor, research facilities, and
technological know-how are examples of and advanced factors. Porter argues that advanced
factors are the most significant for competitive advantage.
6-67
Education.
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
79. Porter argues that a nation's firms gain competitive advantage if:
A. their domestic consumers lack technical awareness

B. they function in a labor intensive market
C. the country has abundant supply of unskilled workers
D. their domestic consumers are demanding
Porter argues that a nation's firms gain competitive advantage if their domestic consumers are
sophisticated and demanding.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
6-68
Education.
80. Textile industry in a nation is characterized by vigorous domestic rivalry. Which of the following
observations of this nation's international competency is most likely to be true?
A. The nation will have access to such basic factors of textile industry as natural resources.
B. The nation's textile firms will have a competitive advantage in international trade.
C. The domestic customers of the textile firms will be less demanding.
D. The nation's textile industry will lack the advanced factors that are necessary to be
internationally competent.
Porter's second point is that there is a strong association between vigorous domestic rivalry and the
creation and persistence of competitive advantage in an industry. Vigorous domestic rivalry induces
firms to look for ways to improve efficiency, which makes them better international competitors.

Blooms: Apply
Gradable: automatic
81. A country's balance-of-payments accounts keep track of the:
A. basic factor endowments and advanced factor endowments that the nation possesses.
B. payments to and receipts from other countries for a particular time period.
C. income taxes paid by domestic firms and the spending on the firms.
D. total value of taxes paid by domestic firms and the spending on the firms.
A country's balance-of-payments accounts keep track of the payments to and receipts from other
countries for a particular time period.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
6-69
Education.
Topic: Balance of Payments
82. Which of the following balance-of-payment accounts records one-time changes in the stock of
assets?
A. Capital account
B. Current account
C. Financial account
D. Monetary account
The capital account records one-time changes in the stock of assets.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
83. Which of the following accounts records transactions that involve the purchase or sale of assets?
A. Capital account
B. Current account
C. Principal account
D. Financial account
The financial account (formerly the capital account) records transactions that involve the purchase
or sale of assets.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
6-70
Education.
84. When a country runs a current account deficit, what happens to the money that flows to other
countries?
A. It is used to buy assets in the deficit country.

B. It is put into the receiving country's infrastructure.
C. It is converted to securities.
D. It is used to pay for social programs in the receiving country.
When a country runs a current account deficit, the money that flows to other countries can be used
to purchase assets in the deficit country.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
85. If foreigners suddenly reduced their investments in the United States, what would happen?
A. The value of the dollar on foreign exchange markets would increase.

B. The action would have no impact on the U.S. economy.
C. The foreigners would sell U.S. dollars for another currency.
D. The price of U.S. exports would increase.
Instead of reinvesting the dollars they earn from exports and investment in the United States back
into the country, they would sell those dollars for another currency. This would lead to a fall in the
value of the dollar on foreign exchange markets, and that in turn would increase the price of
imports, and lower the price of U.S. exports.

Blooms: Apply
Gradable: automatic
6-71
Education.
86. The main tenet of mercantilism is that it is in a country's best interests to:
A. maintain a trade deficit.

B. maintain a trade surplus.
C. Import goods made from products that it does not have in abundance.
D. import more than it exports.
The main tenet of mercantilism is that it is in a country's best interests to maintain a trade surplus,
to export more than it imported. By doing so, a country would accumulate gold and silver and,
consequently, increase its national wealth, prestige, and power.

Blooms: Understand
Gradable: automatic
Topic: Mercantilism
A. It viewed trade as a positive-sum game.

B. It relied on government to support trade.
C. It viewed trade as a zero-sum game.
D. It relied on tenuous free trade agreements.
The flaw with mercantilism was that it viewed trade as a zero-sum game. A zero-sum game is one
in which a gain by one country results in a loss by another.

Blooms: Analyze
Gradable: automatic
6-72
Education.
Topic: Mercantilism
88. Factor endowments refer to the extent to which a country:
A. supports education, research, and development.

B. develops the infrastructure to support industrialism.
C. supports free trade.
D. is endowed with such resources as land, labor, and capital.
labor, and capital. Nations have varying factor endowments, and different factor endowments
explain differences in factor costs.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
89. The _____ theory was based on the observation that for most of the twentieth century a very large
market.
A. product life-cycle
B. Heckscher-Ohlin
C. new trade
D. Ricardo
Vernon's theory was based on the observation that for most of the twentieth century a very large
market. To explain this, Vernon argued that the wealth and size of the U.S. market gave U.S. firms a
strong incentive to develop new consumer products.
6-73
Education.
Blooms: Apply
Gradable: automatic
90. Economies of scale have a number of sources, including the ability:
A. to average out the variable costs of production.

B. of large-volume producers to utilize specialized employees and equipment.
C. to adjust the scale of production based upon product saturation in the marketplace.
D. of to utilize non-specialized employees interchangeably.
Economies of scale are unit cost reductions associated with a large scale of output. Economies of
scale have a number of sources, including the ability to spread fixed costs over a large volume, and
the ability of large-volume producers to utilize specialized employees and equipment that are more
productive than less specialized employees and equipment.

Blooms: Apply
Gradable: automatic
6-74
Education.
91. One of the advantages of being the first mover in a market is:
A. there is little risk involved.

B. to benefit from a higher cost structure.
C. the ability to capture scale economies ahead of later entrants.
D. local governments are more favorable to the first movers.
First-mover advantages are the economic and strategic advantages that accrue to early entrants
into an industry. The ability to capture scale economies ahead of later entrants, and thus benefit
from a lower cost structure, is an important first-mover advantage.

Blooms: Apply
Gradable: automatic
92. Which of the following is true regarding Porter's Diamond theory?
A. It predicts that countries should be importing products from those industries where all four
components of the diamond are favorable.
B. Porter's theory has been proven to be an accurate predictor of the importing and exporting
patterns of countries.
C. It predicts that countries should be exporting products from those industries where all four
components of the diamond those areas where the components are not favorable.
D. Porter's theory has not been subjected to detailed empirical testing, so we do not know if it is
correct.

Blooms: Analyze
Gradable: automatic
6-75
Education.
93. Underlying most of the trade theories discussed is the notion that:
A. different countries have particular advantages in different productive activities.

B. firms that establish a first-mover advantage with regard to the production of a particular new
product will dominate global trade in that product.
C. it usually makes sense for a firm to consolidate its productive activities in one country.
D. despite a pivotal role in international trade, businesses are typically unable to influence
government trade policy.

Blooms: Apply
Gradable: automatic
Essay Questions
94. Explain the concept of free trade.
another country. Smith, who proposed free trade, argued that the invisible hand of the market
mechanism, rather than government policy, should determine what a country imports and what it
exports.

Blooms: Apply
Difficulty: 3 Hard
Gradable: manual
6-76
Education.
95. How does the Heckscher-Ohlin theory explain international trade?
The Heckscher-Ohlin theory emphasizes the interplay between the proportions in which the factors
of production (such as land, labor, and capital) are available in different countries and the
proportions in which they are needed for producing particular goods. This explanation rests on the
assumption that countries have varying endowments of the various factors of production.

Blooms: Apply
Difficulty: 3 Hard
Gradable: manual
96. Explain how the theories of trade differ in terms of their support to governmental intervention.
The theories of Smith, Ricardo, and Heckscher-Ohlin form part of the case for unrestricted free
trade. The argument for unrestricted free trade is that both import controls and export incentives
(such as subsidies) are self-defeating and result in wasted resources. Both the new trade theory and
Porter's theory of national competitive advantage can be interpreted as justifying some limited
government intervention to support the development of certain export-oriented industries.

Blooms: Analyze
Difficulty: 3 Hard
Gradable: manual
6-77
Education.
97. Explain Smith's theory of absolute advantage.
any other country in producing it. According to Smith, countries should specialize in the production
of goods for which they have an absolute advantage and then trade these for goods produced by
other countries.

Blooms: Apply
Difficulty: 3 Hard
Gradable: manual
98. Explain Ricardo's theory of comparative advantage.
produces less efficiently from other countries, even if this means buying goods from other countries
that it could produce more efficiently itself.

Blooms: Apply
Difficulty: 3 Hard
Gradable: manual
6-78
Education.
99. What are the assumptions that we make when we discuss a simple Ricardian model to support free
trade?
1. We have assumed a simple world in which there are only two countries and two goods.
2. We have assumed away transportation costs between countries.
3. We have assumed away differences in the prices of resources in different countries.
4. We have assumed that resources can move freely from the production of one good to another
within a country.
5. We have assumed constant returns to scale.
6. We have assumed that each country has a fixed stock of resources and that free trade does not
change the efficiency with which a country uses its resources.
7. We have assumed away the effects of trade on income distribution within a country.

Blooms: Evaluate
Difficulty: 3 Hard
Gradable: manual
100. Briefly differentiate between constant returns to specialization and diminishing returns to
specialization.
By constant returns to specialization we mean the units of resources required to produce a good
(cocoa or rice) are assumed to remain constant no matter where one is on a country's production
possibility frontier (PPF). Diminishing returns to specialization occur when more units of resources
are required to produce each additional unit.

Blooms: Analyze
Difficulty: 3 Hard
Gradable: manual
6-79
Education.
101. Explain how the principle of diminishing returns weakens the Ricardian model.
Diminishing returns show that it is not feasible for a country to specialize to the degree suggested
by the simple Ricardian model outlined earlier. Diminishing returns to specialization suggest that
the gains from specialization are likely to be exhausted before specialization is complete.

Blooms: Analyze
Difficulty: 3 Hard
Gradable: manual
102. Explain the dynamic gains that are generated by opening an economy to trade.
First, free trade might increase a country's stock of resources as increased supplies of labor and
capital from abroad become available for use within the country.
Second, free trade might also increase the efficiency with which a country uses its resources.

Blooms: Apply
Difficulty: 3 Hard
Gradable: manual
6-80
Education.
103. Explain the Paul Samuelson's critique.
Paul Samuelson's critique looks at what happens when a rich country enters into a free trade
agreement with a poor country that rapidly improves its productivity after the introduction of a free
trade regime. Samuelson's model suggests that in such cases, the lower prices that the rich
country's consumers pay for goods imported from the poor country following the introduction of a
free trade regime may not be enough to produce a net gain for the rich country's economy if the
dynamic effect of free trade is to lower real wage rates in the rich country.

Blooms: Understand
Difficulty: 3 Hard
Gradable: manual
104. Identify a major disadvantage of the product life-cycle theory.
Viewed from an Asian or European perspective, Vernon's argument that most new products are
developed and introduced in the United States seems ethnocentric and increasingly dated. This is a
major disadvantage of the product life-cycle theory.

Blooms: Analyze
Difficulty: 3 Hard
Gradable: manual
6-81
Education.
105. Do you think a new trade theorist would stress the role of luck and entrepreneurship? Explain.
Perhaps the most contentious implication of the new trade theory is the argument that it generates
for government intervention and strategic trade policy. New trade theorists stress the role of luck,
entrepreneurship, and innovation in giving firm first-mover advantages.

Blooms: Evaluate
Difficulty: 3 Hard
Gradable: manual
106. What are the four attributes that are discussed in Porter's diamond?
The four factors are:
(1) Factor endowments — a nation's position in factors of production such as skilled labor or the
infrastructure necessary to compete in a given industry.
(2) Demand conditions — the nature of home demand for the industry's product or service.
(3) Relating and supporting industries — the presence or absence of supplier industries and related
industries that are internationally competitive.
(4) Firm strategy, structure, and rivalry — the conditions governing how companies are created,
organized, and managed and the nature of domestic rivalry.

Blooms: Understand
Difficulty: 3 Hard
Gradable: manual
6-82
Education.
107. Explain how the rivalry within an industry affects international competence.
Porter's second point is that there is a strong association between vigorous domestic rivalry and the
creation and persistence of competitive advantage in an industry. Vigorous domestic rivalry induces
firms to look for ways to improve efficiency, which makes them better international competitors.
Domestic rivalry creates pressures to innovate, to improve quality, to reduce costs, and to invest in
upgrading advanced factors. All this helps to create world-class competitors.

Blooms: Analyze
Difficulty: 3 Hard
Gradable: manual
6-83
Education.

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Chapter 06

International Trade Theory

True / False Questions

4. Mercantilist doctrine advocates unrestricted free trade between countries.

8. Resources always move easily from one economic activity to another.

Multiple Choice Questions

25. David Ricardo's theory of comparative advantage explains:

A. domestic trade in terms of international differences in political environments.

A. New trade theory

28. The principle of mercantilism views trade as a(n) _____ game.

30. According to Ricardo's theory of comparative advantage, countries should:

A. specialize in the production of those goods that it produces most efficiently.

33. The simple comparative advantage model assumed that trade:

A. changes efficiency with which a country utilizes resources.

34. Paul Samuelson's critique argues that:

A. product life-cycle theory

A. Current account deficits

41. New trade theory suggests that nations:

A. increase their commitment to research and development.

45. Which of the following is a major benefit of engaging in free trade?

A. It helps to reduce the financial volatility in global markets.

A. first mover advantage that certain countries and firms enjoy.

A. Comparative advantage theory

A. Comparative advantage theory

52. Which of the following is the main principle of mercantilism?

A. Protection of domestic industries is not essential for a nation's welfare.

53. Which of the following is a major flaw associated with mercantilism?

A. Mercantilists do not support government intervention in trade.

A. has the capability to produce the product within its boundaries.

A. an absolute advantage in the production of the good.

A. for which it has access to raw materials.

60. Diminishing returns to specialization occurs when:

A. each additional unit is produced with lesser number of laborers.

A. The model ignores the principle of diminishing marginal returns.

A. Theory of comparative advantage

A. Heckscher-Ohlin stresses on the differences in productivity between nations.

67. Which of the following statements is true of the Leontief Paradox?

A. product life-cycle theory

A. The theory's arguments seem ethnocentric and increasingly dated.

A. Absolute advantage of production

A. Product life-cycle theory

A. Product life-cycle theory

A. their domestic consumers lack technical awareness

81. A country's balance-of-payments accounts keep track of the:

A. It is used to buy assets in the deficit country.

A. The value of the dollar on foreign exchange markets would increase.

A. maintain a trade deficit.

87. Which of the following is a major flaw associated with mercantilism?

A. It viewed trade as a positive-sum game.

88. Factor endowments refer to the extent to which a country:

A. supports education, research, and development.

A. to average out the variable costs of production.

A. there is little risk involved.

92. Which of the following is true regarding Porter's Diamond theory?

A. different countries have particular advantages in different productive activities.

94. Explain the concept of free trade.

95. How does the Heckscher-Ohlin theory explain international trade?

97. Explain Smith's theory of absolute advantage.

98. Explain Ricardo's theory of comparative advantage.

103. Explain the Paul Samuelson's critique.

104. Identify a major disadvantage of the product life-cycle theory.

True / False Questions

AACSB: Knowledge Application