Trade, Specialization, and Comparative/Absolute Advantage (Lecture Notes)

Flashcards covering gains from trade, specialization, and the concepts of comparative and absolute advantage, including simple examples.

What are the gains from trade?

Gains from trade occur when exchanging goods allows each party to obtain something they value more than what they give up, and specialization expands productive possibilities, making both sides better off.

What is specialization?

Focusing production on a subset of goods that you can produce relatively more efficiently, which increases productivity and total output through division of knowledge.

Why is trade considered the norm under rational behavior?

Because if people have different opportunity costs and preferences, the marginal benefits of trading exceed the marginal costs, making both parties better off.

Define comparative advantage.

A country has a comparative advantage in producing a good if its opportunity cost of producing that good is lower than the opportunity cost in the trading partner.

Explain the Martha Stewart ironing vs business example.

If ironing has a higher opportunity cost than running the business, she should specialize in the activity with the lower opportunity cost, illustrating comparative advantage in business.

Define absolute advantage.

Absolute advantage occurs when a country can produce the same good using fewer inputs than another country; it helps determine which goods to produce domestically versus import.

In a Brazil and Nepal example with cotton and carrots, which country has the comparative advantage in carrots and which in cotton?

Brazil has the comparative advantage in carrots; Nepal has the comparative advantage in cotton; they would specialize accordingly.

What happens without trade?

There is no specialization; individuals or countries produce only the good they can produce, limiting potential gains from exchange.

How does specialization affect productivity and total output?

Specialization vastly increases productivity and total output by allowing focused learning and the use of more efficient methods and tools (e.g., bread making leading to high-tech machinery).