Chapter 3: Interdependence and the Gains from Trade Practice

Given this information:

(1) Set up PPF.

(2) Set up opportunity cost table.

Answer these questions:

(1) Which country has absolute advantage?

(2) Comparative Advantage

• Food

• Computers

(3) Specialization

• Food

• Computers

(4) Who will export food and who will export computers?

(5) Total World Production

• Food

• Computers

(6) Range of Prices

• Food

• Computers

B.

(1) US has absolute advantage in both food and computers

(2) Comparative Advantage

• Food: Mexico

• Computers: US

(3) Specialization

• Food: Mexico

• Computers: US

(4) Mexico will export food, the US will export computers

(5) Total World Production

• Food: 300

• Computers: 100

(6) Range of Prices

• Food: anything between 1/15 a computer and ¼ a computer

• Computers: anything between 4 units of food and 15 units of food

Organize this information to a table.

Suppose that Frank and Ruby each work 8 hours per day and can use this time to grow potatoes, raise cattle, or engage in a combination of the two. Frank produces an ounce of potatoes in 15 minutes and an ounce of meat in 60 minutes. Ruby, who is better in both activities, can produce an ounce of potatoes in 10 minutes and an ounce of meat in 20 minutes. Show how much each can produce in total in 8 hours of work.

Plot this information to PPF and identify the critical points.

Answer these questions:

(1) Opportunity Cost Table

(2) Absolute Advantage

• Potatoes

• Meat

(3) Comparative Advantage

• Potatoes

• Meat

(4) Price of Trade

Frank

• X-Int (only potatoes) = 32 oz (32, 0)

• Y-Int (only meat) = 8 oz (0, 8)

• Midpoint (both) = 16 oz potatoes, 4 oz meat (16, 4)

• Slope (opportunity cost) = potatoes costs ¼ meat; meat costs 4 potatoes

Ruby

• X-Int (only potatoes) = 48 oz (48, 0)

• Y-Int (only meat) = 24 oz (0, 24)

• Midpoint (both) = 24 oz potatoes, 12 oz meat (24, 12)

• Slope (opportunity cost) = potatoes costs ½ meat; meat costs 2 potatoes

Answer these questions:

(1) Opportunity Cost Table

	Potatoes	Meat
Frank	1/4 Meat	4 Potatoes
Ruby	1/2 Meat	2 Potatoes

(1) Absolute Advantage

• Potatoes: Ruby

• Meat: Ruby

(2) Comparative Advantage

• Potatoes: Frank

• Meat: Ruby

(4) Price of Trade

• Potatoes: In between ¼ meat to ½ meat

• Meat: In between 2 potatoes to 4 potatoes

If Frank and Ruby decide to trade under the terms: that Ruby gives 5 oz of meat in exchange of 15 potatoes and Frank gives 15 oz of potatoes in exchange of 5 oz of meat. Wherein Frank specializes completely in potatoes, meanwhile Ruby specializes in meat or 18 oz, while also maintaining potato production of 12 oz.

Create Gains from Trade Summary

Set up PPF using this information.

What is the opportunity cost from moving from B to C?

Computers: 3 Bikes

What is the opportunity cost from moving from E to D?

Bikes: 2 Computers

The point will move from inside the PPF to the frontier itself.

Output Question for Gains of Trade

Absolute Advantage goes to Canada because they take fewer hours to produce cars and planes

The US should specialize in cars because they only give up 2 planes per car, while Canada should specialize in planes because they only give up ¼ of a car.

Plot the PPC given this chart.

A

D

C

E

D

D

B

D

Find comparative advantage.

Find comparative advantage.

Find comparative advantage.

Find comparative advantage.

Italy

• 1 car for 3 trucks (1 car costs 3 trucks)

Germany

• 1 car for 5 trucks (1 car costs 5 trucks)

Do not go for the trade, if produced domestically, Italy can produces cars for a cheaper deal

Who has absolute advantage in each good mentioned?

The US has absolute advantage in planes.

Who has absolute advantage in each good mentioned?

Korea has absolute advantage in motorcycles.

Germany has absolute advantage in cars.

Who has absolute advantage in each good mentioned?

Japan has absolute advantage in both laptops and in phones.

Who has absolute advantage in each good mentioned?

Mexico has absolute advantage in salsa and TVs.

Who has a comparative advantage in planes?

• US

Who has comparative advantage in cruise ships?

• France

Who has a comparative advantage in cars?

• Germany

Who has comparative advantage in cruise motorcycles?

• Korea

Who has a comparative advantage in laptops?

• Japan

Who has comparative advantage in cruise phones?

• Brazil

Who has a comparative advantage in TVs?

• Mexico

Who has comparative advantage in cruise salsa?

• Cuba