slides by timothy diette and kevin brady comparative advantage begin interactive examples to...
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Slides by
Timothy Diette and Kevin Brady
Comparative AdvantageBegin
Interactive Examples
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Material from this presentation can be found in:
Chapter 2
CoreEconomics, 2e
Answer
QUESTION:Consider a world of two countries: Canada and the United States (U.S.) Both countries produce and consume only two goods: cars and wheat. The table to the right shows the amount of cars (in millions) and wheat (in millions of metric tons) each country is currently consuming and producing.
1. Does either country have an absolute advantage in the production of cars or wheat?
2. What is the opportunity cost of cars in each country? Of wheat?
3. Which country has a comparative advantage in cars? In wheat?
4. What is the total production of each good in the world?
5. Suppose these countries can now specialize, but want to keep the total world production of cars at three million. What is the most amount of wheat they could produce in total?
Comparative Advantage
Initial Consumption-Production of Cars and Wheat in Canada and the United States
Canada U.S.
Cars 1 2
Wheat 4 12
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Comparative Advantage
ANSWER:1. Does either country have an absolute advantage in the production of cars or wheat?
Yes! An absolute advantage exists when one country can produce more of a good than another country. The U.S. can produce more cars and more wheat than Canada, and so it has an absolute advantage in the production of both goods.
Initial Consumption-Production of Cars and Wheat in Canada and the United States
Canada U.S.
Cars 1 2
Wheat 4 12
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Comparative Advantage
ANSWER:
2. What is the opportunity cost of cars in each country? Of wheat?
In Canada, the tradeoff between cars and wheat is 1 car for every 4 metric tons of wheat. Thus, to produce one extra car, Canada must forgo producing 4 metric tons of wheat. The opportunity cost of producing a car is 4 metric tons of wheat.
In the U.S., the tradeoff between cars and wheat is 1 car for every 6 metric tons of wheat. The opportunity cost of producing a car is 6 metric tons of wheat.
Canada can produce 4 metric tons of wheat for every car. Thus, to produce one metric ton of wheat, the country must forgo producing one-fourth of a car. The opportunity cost of producing a metric ton of wheat is 1/4 of a car.
Using the same logic, in the U.S. the opportunity cost of producing a metric ton of wheat is 1/6 of a car.
Canada U.S.
Opportunity Cost of 1 car 4 Wheat 6 Wheat
Opportunity Cost of 1
wheat1/4 of a Car 1/6 of a Car
Initial Consumption-Production of Cars and Wheat in Canada and the United States
Canada U.S.
Cars 1 2
Wheat 4 12
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Comparative Advantage
ANSWER:
3. Which country has a comparative advantage in cars? In wheat?
A country has a comparative advantage in producing a good if its opportunity cost to produce that good is lower than the other country’s.
Canada has a comparative advantage in producing cars in this example because its opportunity cost of 4 metric tons of wheat is less than the 6 metric tons of wheat opportunity cost in the U.S.
On the other hand, the U.S. has a comparative advantage in producing wheat. The U.S. has an opportunity cost of 1/6 of a car, which is less than Canada’s 1/4 of car opportunity cost.
Canada U.S.
Opportunity Cost of 1 car 4 Wheat 6 Wheat
Opportunity Cost of 1
wheat1/4 of a Car 1/6 of a Car
Initial Consumption-Production of Cars and Wheat in Canada and the United States
Canada U.S.
Cars 1 2
Wheat 4 12
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Comparative Advantage
ANSWER:4. What is the total production of each good in the world?
The total world production can be found by adding the goods produced in each country. In this two-country world, total production is 3 million cars and 16 million metric tons of wheat.
Labor Units Required to Produce Cars and Wheat in Canada and the United States
Canada U.S.
Cars 4 2
Wheat 1 2
Initial Consumption-Production of Cars and Wheat in Canada and the United States
Canada U.S.
Cars 1 2
Wheat 4 12
Production in Canada and the United States
Canada U.S.
Cars 1 2
Wheat 4 12
Totals
3
16
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Comparative Advantage
ANSWER:5. Suppose these countries can now specialize, but want to keep the world production of cars at three million. What is the most amount of wheat they could produce in total?
Canada has a comparative advantage in producing cars and so it should switch its wheat production to cars. By doing this, Canada can produce 2 million cars and no wheat.
Since the two countries desire to produce 3 million cars, the U.S. must produce the remaining 1 million cars. They can now use the idle resources that were used to produce their other 1 million cars to produce an extra 6 million metric tons of wheat, bringing the total to 18 million metric tons.
Notice that by focusing production on the goods in which each country has a comparative advantage, the world production of wheat increased to 18 million metric tons from 16 million metric tons, without having to produce less cars!
Labor Units Required to Produce Cars and Wheat in Canada and the United States
Canada U.S.
Cars 4 2
Wheat 1 2
Initial Consumption-Production of Cars and Wheat in Canada and the United States
Canada U.S.
Cars 1 2
Wheat 4 12
Production in Canada and the United States
Canada U.S.
Cars 2 1
Wheat 0 18
Totals
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18
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