Econ 102 - Chapter 8 - Comparative Advantage and Gains from Trade

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9 Terms

1
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Gains from trade

The benefits that come from reallocating resources to better uses.

Trade occurs when:

  • Each person values what the other has more than their own.

  • By swapping, both parties are better off.

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Why Trade Works

  • People (or countries) differ in what they can produce efficiently.

  • By specializing and trading, total output increases without extra resources.

  • Trade creates mutual gains — more goods and satisfaction overall.

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Absolute Advantage

Ability to produce something using fewer inputs (being more productive)

Ex:

  • Natalia takes 30 min to balance an account; Ryan takes 40 → Natalia has absolute advantage.

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Comparative Advantage

Ability to produce something at a lower opportunity cost (OC)

ex:

  • Even if Ryan is slower overall, he may give up less of other tasks → has comparative advantage.

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How to Find Comparative Advantage

  1. Calculate the Opportunity cost (OC)

    OC of a task = 
    time this task takes /
    time to produce the alternative

  2. Compare OCs between individuals for each task.

    - Whoever gives up less has the comparative advantage.

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Most important Take-away

Everyone has a comparative advantage in something —
even if they have no absolute advantage in anything.
Focus on your lower opportunity cost task

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Gains from Specialization

If Natalia and Ryan each spend 120 minutes doing what they’re best at:

  • Total output increases: +1 balanced account, same payments done.
    → Same resources, more output.

Lesson:

  • Reallocate tasks to those with lowest OC → more efficient use of time.

  • The same logic drives international trade.

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When information is in terms of resource / output

Task’s resource (1) / 

Alternative Resource (2)

Ex:

Finding the OC of research task (resource 1)

4 hours research (res 1) /
2 hours writing (res 2)

= 2 OC

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When information is in terms of output / resource

Alternative output (2) /

Task’s output (1)

Ex:

Finding the OC of grapes (output 1)

100 oranges (output 2) /
50 grapes (output 1)

= 2 OC