# Economics

Question 1
Suppose a domestically produced motorcycle sells at a world price of
\$5,000 under unrestricted trade. The domestic producer uses \$3,000
worth of imported inputs, (VA*). The \$2,000 difference between the
world price of the final motorcycle and the cost of the imported
components represents domestic value added (VA). Domestic
value-added includes the payments made to domestic labour and capital
inputs. Under restricted trade, domestic value-added cannot exceed
\$2,000, or the price of the domestically produced motorcycle will exceed
that of imported ones and the domestic ones will not sell. Suppose a 10
percent ad valorem (on the value) tariff is imposed on the imported
motorcycle. [20 marks]
(a) Calculate the domestic price of the motorcycle. [1 mark]
(b) What is the possible price of the domestically produced motorcycle?
[2 marks]
(c) Calculate the domestic value-added of the imported motorcycle. [1
mark]
(d) Calculate the effective rate of protection (ERP). [3 marks]
(e) Is this an effective rate of protection? Why or why not? [3 marks]
Suppose now that the 10 percent tariff on finished motorcycles is
accompanied by a 5 percent tariff on imported components used in
the domestic production of motorcycles. Answer the next three
questions based on this proposition.
(f) Calculate the price that domestic producers pay on the imported
components that they use as inputs. [1 mark]
(g) What is the amount of the new domestic value-added after the
tariff? (Note: the new value-added is the difference between the
tariffed price of imported motorcycles and the tariffed price of
imported inputs used in domestic production.) [3 marks]
(h) Calculate the value of the new ERP. [3 marks]
(i) Suppose that the government decided to tax the imported inputs by
the same rate (10 percent) as the finished imported good. What is
the ERP under this condition. [3 marks]

Question 2
“For a small country like the Philippines, a move to free trade would have huge advantages. It would let consumers and producers make their choices based on the real costs of goods, not on artificial prices determined by government policy; it would allow escape from the confines of a narrow domestic market; it would open new horizons for entrepreneurship; and, most important, it would help to clean up domestic politics.” Separate out and identify the 5 arguments for free trade in this statement.