Chapter 18

Practice Quiz
International Trade
and Finance
1. With trade, the production possibilities for two nations lie
a. outside their consumption possibilities.
b. inside their consumption possibilities.
c. at a point equal to the world production possibilities curve.
d. none of the above.
ANS:
b. When countries specialize and trade, total world output increases and potential total
world consumption also increases.
2. Free trade theory suggests that when trade takes place
a. both nations will be worse off.
b. one nation must gain at the other nations expense.
c. both nations are better off.
d. one nation will gain and the other nation will be neither better nor worse off.
ANS:
c. Free trade allows a country to consume a combination of goods that exceeds its
production possibilities curve.
3. Which of the following is true when two countries specialize according to their
comparative advantage?
a. It is possible to increase their total output of all goods.
b. It is possible to increase their total output of some goods only if both countries are
industrialized.
c. One country is likely to gain from trade while the other loses.
d. None of the above.
ANS:
a. Comparative advantage is the ability of a country to produce a good at a lower
opportunity cost than another country.

4. According to the theory of comparative advantage, a country should produce and

a. import goods in which it has an absolute advantage.
b. export goods in which it has an absolute advantage.
c. import goods in which it has a comparative advantage.
d. export goods in which it has a comparative advantage.
ANS:
d. Dont confuse comparative advantage and absolute advantage. Absolute advantage is
the ability of a country to produce a good using fewer resources than another country.

5. In Exhibit 13, which country has the comparative advantage in the production of
potatoes?
a. The United States because it requires fewer resources to produce potatoes.
b. The United States because it has the lower opportunity cost of potatoes.
c. Ireland because it requires fewer resources to produce potatoes.
d. Ireland because it has the lower opportunity cost of potatoes.
ANS:
d. To produce 1 ton of potatoes, the opportunity cost for the U.S. is 3 tons of wheat. To
produce 1 ton of potatoes, the opportunity cost for Ireland is 2 tons of wheat.

6. In Exhibit 13, the opportunity cost of wheat is

a. 1/3 ton of potatoes in the United States and 1/2 ton of potatoes in Ireland.
b. 2 tons of potatoes in the United States and 1 1/2 tons of potatoes in Ireland.
c. 8 tons of potatoes in the United States and 4 tons of potatoes in Ireland.
d. 1/2 ton of potatoes in the United States and 2/3 tons of potatoes in Ireland.
ANS:
a. U.S.1 ton potatoes = 3 tons of wheat
1/3 ton of potatoes = 1 ton of wheat
Ireland 1 ton potatoes = 2 tons of wheat
1/2 ton potatoes = 1 ton of wheat
7. In Exhibit 13, the opportunity cost of potatoes is
a. 1/2 ton of wheat in the United States and 2/3 ton of wheat in Ireland.
b. 2 tons of wheat in the United States and 1 1/2 tons of wheat in Ireland.
c. 16 tons of wheat in the United States and 6 tons of wheat in Ireland.
d. 3 tons of wheat in the United States and 2 tons of wheat in Ireland.
ANS:
d. U.S.1 ton potatoes = 3 tons of wheat
Ireland 1 ton potatoes = 2 tons of wheat
8. If the countries in Exhibit 13 follow the principle of comparative advantage, the United
States should
a. buy all of its potatoes from Ireland.
b. buy all of its wheat from Ireland.
c. buy all of its potatoes and wheat from Ireland.
d. produce both potatoes and wheat and not trade with Ireland.
ANS:
a. The U.S. should specialize in the production of wheat when it has a comparative
advantage (see question 6 for opportunity cost calculations).
9. A tariff increases the
a. quantity of imports.
b. ability of foreign goods to compete with domestic goods.
c. prices of imports to domestic buyers.
d. all of the above.
ANS:
c. A tariff is a tax, also called customs duties, on an import.

10. The infant industry argument for protectionism is based on which of the following
views?
a. Foreign buyers will absorb all of the output of domestic producers in a new industry.
b. The growth of an industry that is new to a nation will be too rapid unless trade
restrictions are imposed.
c. Firms in a newly developing domestic industry will have difficulty growing if they
face strong competition from established foreign firms.
d. It is based on none of the above.
ANS:
c. It is difficult to make this argument because there is an arbitrary line between an
infant and a grown up industry.
11. The figure that results when goods imports are subtracted from goods exports is
a. the capital account balance.
b. the balance of trade.
c. the current account balance.
d. always less than zero.
ANS:
b. The capital account records payments for financial capital, such as stocks and bonds.
The current account includes trade in currently produced goods and services.
12. Which of the following international accounts records payments for exports and
imports of goods, military transactions, foreign travel, investment income, and foreign
gifts?
a. The capital account
b. The goods account
c. The current account
d. The official reserve account
ANS:
c. The capital account records payments for financial capital, such as stocks and bonds.
The goods account is the value of a nations goods imports subtracted from its goods
exports. There is no official reserve account.

13. Which of the following international accounts records the purchase and sale of
financial assets and real estate between the United States and other nations?
a. The balance of trade account
b. The current account
c. The capital account
d. The balance of payments account
ANS:
c. The balance of trade is the value of a nations goods imports subtracted from its goods
exports. The current account includes trade in currently produced goods and services.
Balance of payments is a bookkeeping record of all international transactions in a given
period of time.
14. If a Japanese radio priced at 2,000 yen can be purchased for $10, the exchange rate is
a. 200 yen per dollar.
b. 20 yen per dollar.
c. 20 dollars per yen.
d. none of the above.
ANS:
a. X yen / dollar = 2,000 yen / 10 dollars = 200 yen / dollar.
15. The United States
a. was on a fixed exchange rate system prior to late 1971, but now is on a flexible
exchange rate system.
b. has been on a fixed exchange rate system since 1945.
c. has been on a flexible exchange rate system since 1945.
d. was on a flexible exchange rate system prior to late 1983, but now is on a fixed
exchange rate system.
ANS:
a. For most years between World War II and 1971, the U.S. exchange rate was based
primarily on gold.

16. Suppose the exchange rate changes so that fewer Japanese yen are required to buy a
dollar. We would conclude that
a. the Japanese yen has depreciated in value.
b. U.S. citizens will buy fewer Japanese imports.
c. Japanese will demand fewer U.S. exports.
d. none of the above will occur.
ANS:
b. When the dollar is weak or depreciates, U.S. goods cost foreign consumers less and
they buy more U.S. exports.
17. Which of the following would cause a decrease in the demand for euros by those
holding U.S. dollars?
a. Inflation in France, but not in the United States
b. Inflation in the United States, but not in France
c. An increase in the real rate of interest on investments in France above the real rate of
interest on investment in the United States
d. None of the above
ANS:
a. A rise in the euro relative price level causes the dollar to appreciate and demand for
euro decreases.
18. An increase in the equilibrium price of a nations money could be caused by a (an)
a. decrease in the supply of money curve.
b. decrease in the demand for money curve.
c. increase in the supply of money curve.
d. increase in the demand for money curve.
ANS:
a. See Exhibit 11 in the text.
19. If the dollar appreciates (becomes stronger), this causes
a. the relative price of U.S. goods to increase for foreigners.
b. the relative price of foreign goods to decrease for Americans.
c. U.S. exports to fall and U.S. imports to rise.
d. a balance of trade deficit for the U.S.
e. all of the above to occur.
ANS:
e. All answers are correct.

20. Which of the following would cause the U.S. dollar to depreciate against the Japanese
yen?
a. Greater popularity of U.S. exports in Japan
b. A higher price level in Japan
c. Higher real interest rates in the U.S.
d. Higher incomes in the U.S.
ANS:
d. Higher incomes in the U.S. mean U.S. citizens buy more Japanese imports resulting in
a rightward shift in the supply curve for dollars and a decrease in the equilibrium
exchange rate.