Problems Global Trade

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ECO 6936: Global Trade and Policy

Problem Set 5

 

Question 1

The standard strategic trade policy story treats protectionism between countries as a Prisoner’s dilemma. In the case of two similar sized economies with similar reliance’s on trade, this treatment seems reasonable. In the case of two dissimilarly sized economies, however, this treatment may not be appropriate…or at least, the two counties are not similarly disadvantaged by a trade war.

 

The United States’ economy is roughly twenty times as large as the Canadian economy, in terms of Gross Domestic Product (GDP). Consider that the United States and Canada are considering whether to impose tariffs on each other’s steel exports. The resulting payoffs from each possible outcome (relative to the “no tariffs” baseline) are given as:

  • If both countries impose a tariff, Canada receives a payoff of -$45 billion, and the United States receives a payoff of -$15billion
  • If the United States imposes a tariff, but Canada does not impose a tariff, Canada receives a payoff of -$40 billion, and the United States receives a payoff of $10 billion.
  • If Canada imposes a tariff, but the United States does not impose a tariff, Canada receives a payoff of -$5 billion, and the United States receives a payoff of -$20 billion.
  • If neither country imposes a tariff, the payoff to both countries is $0.

 

Part (i): Complete the normal form game below using the payoffs information described above.

 

 

Part (ii): Identify the Nash Equilibrium of the game that you have constructed in Part (i).

 

 

 

 

 

 

 

Question 2

In response to the COVID-19 pandemic several countries restricted international travel, and some even restricted the international flow of goods. The game below depicts the bilateral trade policy between France and Germany. While each county is a member of the European Union, and is thus prohibited from restricting trade, the public health crisis has led some countries to abandon their commitments to the EU.

You will examine the desirability of an EU policy prohibition closing borders. Below, you have the payoffs for each country if it chooses to close its borders to the trade of goods and services.

 

Part (i): Identify the Nash Equilibrium of the game.

 

Part (ii): Based on your analysis of this game, would each country prefer an EU policy that prevents all countries from closing their borders, or a policy that allows all countries to close their borders.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Question 3

Belgium and France are both members of the European Union. Their membership in the union prevents them from imposing tariffs on each other’s goods and services. This question will explore how the penalties for breaking EU trade rules might alter countries’ behavior.

 

Belgium and Francecan independently choose to impose a tariff on imports from the other country. The normal form game below depicts the payoffs associated with each possible outcome of this interaction. Importantly, the values below do not take account of any possible penalties for breaking EU trade rules.

 

 

Part (i): Identify the Nash Equilibrium of the game.

 

Part (ii): Suppose that the European Union imposes a fine on any country that imposes a tariff. Not surprisingly, sufficiently small fines will not affect the counties’ decisions. What is the maximum fine such that the Nash Equilibrium you identified in Part (i) is still the Nash Equilibrium of this game?

 

Part (iii): Suppose that the European Union imposes a fine on any country that imposes a tariff. There is a range of values for this fine such that Belgium does not impose a tariff, but France does. What is this range?

 

Part (iv): Suppose that the European Union imposes a fine on any country that imposes a tariff. There is a minimum fine above which neither country imposes a tariff. What is this threshold value?

 

 

 

 

 

 

 

 

 

 

 

 

 

Question 4

Offshoring influences the relative demand for skilled labor in both the Home country, as well as in the Foreign country to which a portion of the manufacturing process is being offshored. Below, you are provided the relative demand and supply for skilled labor in the Home country prior to any offshoring.

 

 

Part (i): Suppose that the Home country does not engage in offshoring. If low skilled labor currently earns $1,000 per week, how much does skilled labor earn each week?

 

Part (ii): Suppose that the Home country engages in offshoring, and that the relative demand for skilled labor shifts 0.6 units rightward. Identify the new skill premium.

 

Part (iii): Suppose that the Home country engages in offshoring, and that the relative demand for skilled labor shifts 0.6 units rightward. Assuming that low skilled labor still earns $1,000 per week, how much does skilled labor earn each week after offshoring begins?

 

Part (iv): The relative demand for skilled labor in the Foreign country will also be affected by offshoring. In which direction will the relative demand for skilled labor in the Foreign country shift? Why?

 

Part (v): Explain the difference between offshoring and outsourcing. Would you expect outsourcing to have similar effects on the relative demands for skilled labor in the Home and Foreign countries? Why?