4. Effects of a regional trading arrangement Consider a hypothetical world consi

Question

4. Effects of a regional trading arrangement Consider a hypothetical world consisting of only three countries: Luxembourg, the United States, and Germany. Each country produces grain. Luxembourg is a small economy compared to the United States and Germany and thus cannot influence foreign prices. On the following graph, the supply and demand schedules of Luxembourg are shown as SLux and DLux. Foreign supply schedules of grain are perfectly elastic: The United States is a more efficient supplier of grain than Germany because its supply price is $0.80 per bushel (Su.s.), whereas Germany's supply price is $1.60 per bushel (SGer) PRICE (Dollarsl 8.00 7.20DLx 6.40 5.60 4.80 4.00 3.20 2.40 1.60 0.80 0.00 u 0 6 12 18 24 30 36 42 48 54 60 GRAIN IThousands of bushels Fill in the missing quantities in the following paragraph about Luxembourg's imports. (Hint: Enter the quantities as numerical values. For example, type in 40,000, not 40 thousand.) Initially, the three nations engage in free trade, and Luxembourg imports producers and imposes a tariff t = 1.60 per bushel of grain on imports from both the United States and Germany. As bushels of grain from . At some point in time, however, Luxembourg decides to protect its domestic grain a result, Luxembourg imports bushels of grain from the United States Germany Later on, Luxembourg and Germany form a customs union as part greement, while the trade

Explanation / Answer

Initially, the three nations engage in free trade, and Luxemborg imports 48000 (=54000-6000) bushels of grain from the United States. At some point in time, however, Luxemborg decides to protect its domestic grain producers and imposes a tariff t=1.6 bushel of grain on imports from both the United States and Germany. As aresult, Luxemborg imports 24000 (=42000-18000) bushels of grain from the United States.

Later on, Luxemborg and Germany form a customs union.... As a result, Luxemborg imports 0 bushels from the United States.

Trade effect due to the formation of the customs union:

(a) Production Effect: B: because this much amount of supply is reducing from the domestic economy due to trade liberalization.
(b) Trade creation effect: A and B: reason: because it is the trade that comes due to the formation of trade liberalization.
(c) Trade diversion effect: C: reason: because this much of the trade was with United States which is diverted to Germany.
(d) Consumption Effect: A: because this much amount of demand is increasing in the domestic economy due to trade liberalization.

The effect of the customs union on Luxemborg is positive (as more demand can be satisfied at less price).

Production effect on the United States is negative (because the demand of import is being satisfied by Germany).

Production effect on Germany is positive.

Welfare effects of a regional...-->All fours options are correct. Check all boxes.

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