comparative advantage: the basis for exchange
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Comparative Advantage: The Basis for Exchange. Exchange and Opportunity Cost. Absolute Advantage One person has an absolute advantage over another if he takes fewer hours to perform a task than the other person. Exchange and Opportunity Cost. Comparative Advantage - PowerPoint PPT PresentationTRANSCRIPT
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Comparative Advantage:
The Basis for Exchange
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 2
Exchange and Opportunity Cost
Absolute AdvantageOne person has an absolute advantage
over another if he takes fewer hours to perform a task than the other person
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 3
Exchange and Opportunity Cost
Comparative AdvantageOne person has a comparative advantage
over another if his opportunity cost of performing a task is lower than the other person’s opportunity cost
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 4
Exchange and Opportunity Cost
The Principle of Comparative AdvantageShould Paula update her own web page?
Time to updateTime to updateweb pageweb page
Time to complete Time to complete bicycle repairbicycle repair
PaulaPaula 20 minutes20 minutes 10 minutes10 minutes
BethBeth 30 minutes30 minutes 30 minutes30 minutes
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 5
Opportunity Costsfor Paula and Beth
The Principle of Comparative AdvantageShould Paula update her own web page?
Opportunity Cost of Opportunity Cost of updating a web pageupdating a web page
Opportunity Cost of a Opportunity Cost of a bicycle repairbicycle repair
PaulaPaula 2 bicycle repairs2 bicycle repairs 0.5 web page updates0.5 web page updates
BethBeth 1 bicycle repair1 bicycle repair 1 web page update1 web page update
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 6
Exchange and Opportunity Cost
The Principle of Comparative AdvantageShould Paula update her own web page?
How many web pages and bicycle repairs can Paula and Beth produce a day if they both work eight hour days?
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 7
Exchange and Opportunity Cost
The Principle of Comparative AdvantageShould Barb update her own web page?
Productivity in Productivity in programmingprogramming
Productivity inProductivity inbicycle repairbicycle repair
PatPat 2 web page 2 web page updates per hourupdates per hour
1 repair/hour1 repair/hour
BarbBarb 3 web page 3 web page updates per hourupdates per hour
3 repairs/hour3 repairs/hour
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 8
Exchange and Opportunity Cost
The Principle of Comparative AdvantageEveryone does best when each person (or
each country) concentrates on the activities for which his or her opportunity cost is lowest
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 9
Sources of Comparative Advantage
Individual Inborn talent Education Training Experience Natural Endowments Acquired Endowments Superior Knowledge
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 10
Exchange and Opportunity Cost
QuestionTelevisions and video cassette recorders
were developed and first produced in the U.S.
Why did the U.S. fail to retain its lead in these markets?
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 11
Comparative Advantage and Production Possibilities
The Production Possibilities CurveAssume
A small economy that:o Produces only two goods - coffee and nutso Has only one worker who works 6 hrs/day
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 12
Country A’s Production Possibilities
Coffee(m lb/day)
Nutsm(lb/day)
A
B
C
D
24
0
16
8
4 8 12
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 13
Country B’s ProductionPossibilities Curve
0Nuts
(lb/day)
How Individual Productivity Affects the Slope and Position of the Production Possibilities Curve
Coffee(lb/day)
4
8
8 16
A
B
C
D
12
24
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 14
Individual Production Possibilities Curves Compared
Nuts(lb/day)0
12
24
Country B’s PPC
B has an absolute and comparative advantage in
gathering nuts
24
12
Country A’s PPC
A has an absolute and comparative advantage in gathering coffee
Coffee(‘000 lb/day)
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 15
Production With Specialization
Nuts(lb/day)0
12
24
12 24
A’s Production Possibilities Curve
B’s comparative advantage is in nuts so he specializes in nuts and produces 24 m lbs
A’s comparative advantage is in coffee so it specializes in coffee and produces 24 m lbs
B gives A 12 lbs of coffee for 12 lbs of nuts
E
B’s Production Possibilities Curve
Coffee(lb/day)
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 16
Production PossibilitiesCurve For a Large Economy
Nuts(1000s of lb/day)
Assume: An economy that produces only two goods, coffee and nuts
100
80
Why would the Production Possibilities Curve have
an outward bow?
Coffee(1000s of lb/day)
E
A B C
D
1520
9095
20 30 7577
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 17
The Principle of Increasing Opportunity Cost (“The Low-Hanging-Fruit Principle”)
In expanding the production of any good, first employ those resources with the lowest opportunity costs, and only afterward turn to resources with higher opportunity costs
Comparative Advantage and Production Possibilities
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 18
Economic Growth: An Outward Shift in the Economy’s PPC
Coffee(1000s of lb/day)
Nuts(1000s of lb/day)
Original PPC
New PPC
Factors Shifting the PPC1. Increases in productive resources
(i.e. labor or capital)
2. Improvements in knowledge and technology
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 19
Factors That Shift The Economy’s Production Possibilities Curve
Increasing Productive Resources Investment in new factories and equipment Population growth Improvements in knowledge and
technology Increasing education Gains from specialization
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 20
Factors That Shift The Economy’s Production Possibilities Curve
Why Have Countries Like Nepal Been So Slow to Specialize?
Low population density Isolation Factors that my limit specialization in other
countries Laws Customs
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 21
Factors That Shift The Economy’s Production Possibilities Curve
Can we have too much specialization?
What do you think? What are the costs of specialization?
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 2: Comparative Advantage: The Basis for Exchange Slide 22
Comparative Advantage and International Trade
Economic NaturalistIf trade between nations is so beneficial,
why are free-trade agreements so controversial?