Assuming a two-country world, suppose that country I's income elasticity of demand for Imports is 1.2 and that country II's income elasticity of demand for imports is 0.9.Suppose also that, during 2010, country I's GDP grows by 5 percent and country II's GDP grows by 6 percent. Given these income elasticities of demand for imports and These growth rates and with other things equal, the terms of trade of country I with Country II during 2010 would __________.

Question

Quizplus · Accepted Answer

With country I's income elasticity of demand for imports being higher than that of country II, a 5 percent growth in country I's GDP would lead to a larger increase in demand for imports compared to country II's 6 percent growth in GDP. This would result in higher demand for country II's exports and hence, country II would have an advantage in terms of trade negotiations. Therefore, the terms of trade of country I with country II would deteriorate.

Assuming a Two-Country World, Suppose That Country I's Income Elasticity