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    @Assignment-Absolute and Comparative Advantage

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    Abhishek
    Delta has a comparative advantage in hat production and Epsilon has a comparative advantage in bicycle production. They can benefit from a trade of 3 hats for 1 bicycle. Ted has a comparative advantage in wheat production while Nancy has a comparative advantage in radio production. They can benefit from a trade of 1 radio for 1 bushel of wheat. Countries, individuals, or firms that have a lower opportunity cost of producing a good, based on their absolute advantages, have a comparative advantage in that good and can gain from international or interpersonal trade.

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    @Assignment-Absolute and Comparative Advantage

    Uploaded by

    Abhishek
    127 views4 pages
    Delta has a comparative advantage in hat production and Epsilon has a comparative advantage in bicycle production. They can benefit from a trade of 3 hats for 1 bicycle. Ted has a comparative advantage in wheat production while Nancy has a comparative advantage in radio production. They can benefit from a trade of 1 radio for 1 bushel of wheat. Countries, individuals, or firms that have a lower opportunity cost of producing a good, based on their absolute advantages, have a comparative advantage in that good and can gain from international or interpersonal trade.

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    Delta has a comparative advantage in hat production and Epsilon has a comparative advantage in bicycle production. They can benefit from a trade of 3 hats for 1 bicycle. Ted has a comparative advantage in wheat production while Nancy has a comparative advantage in radio production. They can benefit from a trade of 1 radio for 1 bushel of wheat. Countries, individuals, or firms that have a lower opportunity cost of producing a good, based on their absolute advantages, have a comparative advantage in that good and can gain from international or interpersonal trade.

    Copyright:

    © All Rights Reserved
    Download as DOCX, PDF, TXT or read online from Scribd
    Download as docx, pdf, or txt
    127 views4 pages

    @Assignment-Absolute and Comparative Advantage

    Uploaded by

    Abhishek
    Delta has a comparative advantage in hat production and Epsilon has a comparative advantage in bicycle production. They can benefit from a trade of 3 hats for 1 bicycle. Ted has a comparative advantage in wheat production while Nancy has a comparative advantage in radio production. They can benefit from a trade of 1 radio for 1 bushel of wheat. Countries, individuals, or firms that have a lower opportunity cost of producing a good, based on their absolute advantages, have a comparative advantage in that good and can gain from international or interpersonal trade.

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    © All Rights Reserved
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    of 4

    Name: _____________

    Absolute Advantages, Comparative Advantages, Terms of Trade

    The Grid Method

    Example problem from a prior AP exam:


    Country Delta can produce 1200 hats or 300 bicycles
    Country Epsilon can produce 600 hats or 300 bicycles
    They have similar resources.

    1. Delta has the absolute advantage in hat production, but they are tied in bicycle production.
    2. Now, we must find the comparative advantages.
    3. Build the grid:

    Delta Epsilon
    1200 Hats or 300 Bicycles 600 Hats or 300 Bicycles

    Assume each country makes 1 hat. What is their opportunity cost? Reduce the 1200 and 600 to
    one each by dividing the numbers by themselves. Now divide the other number by 1200 for
    Delta and 600 for Epsilon in order to create opportunity cost:

    Delta Epsilon
    1200 Hats or 300 Bicycles 600 Hats or 300 Bicycles
    1 Hat = ¼ Bicycle 1 Hat = ½ Bicycle

    Note that Delta gives up the opportunity cost of ¼ of a bicycle every time they make a hat.
    Epsilon gives up the opportunity cost of ½ of a bicycle every time they make a hat.
    Delta has a lower opportunity cost, therefore has the comparative advantage and will make hats

    Now reduce the other side of the equation, the bicycles:

    Delta Epsilon
    1200 Hats or 300 Bicycles 600 Hats or 300 Bicycles
    1 Hat = ¼ Bicycle 1 Hat = ½ Bicycle
    4 Hats = 1 Bicycle 2 Hats = 1 Bicycle

    Note that Epsilon give up 2 hats when making bicycles and Delta gives up 4 hats.
    Epsilon has the lower opportunity cost and comparative advantage and will make bicycles
    Now find the potential trade range. Each country will offer a trade BETTER than their own
    opportunity cost:

    Delta (trade offer) Epsilon


    1200 Hats or 300 Bicycles 600 Hats or 300 Bicycles
    1 Hat = ¼ Bicycle 1 Hat for > ¼ Bicycle 1 Hat = ½ Bicycle
    4 Hats = 1 Bicycle 1 Bicycle for > 2 Hats 2 Hats = 1 Bicycle

    Remember that trade will always occur in whole goods. A trick is to look at the whole number
    offer: 1 bicycle for more than 2 hats (from Epsilon). The next whole number after 2: Three.
    1 bicycle for 3 hats will make Epsilon happy. Will that also make Delta happy, giving up 3 hats
    to get 1 bicycle? Mathematically, 1 to 3 is the same as 1/3rd to 1. Would giving up 1 hat to get
    back 1/3rd of a bicycle be a good trade for Delta? Yes, since 1/3rd is better than 1/4th.

    Acceptable trade is 1 bicycle for 3 hats: both countries gain.

    This summarizes an “output” problem.

    Input problem

    Example information:

    Ted needs 20 minutes to build a radio but needs 5 minutes to gather a bushel of wheat.
    Nancy needs 30 minutes to build a radio but needs 15 minutes to gather wheat.
    Ted has the absolute advantage in both, since he needs less effort for either item.

    The quickest method is to recreate the grid, converting to an output of 1 each item:

    Here is the start:

    Ted Nancy
    20 min. radio or 5 min. wheat 30 min. radio or 15 min.
    wheat
    1 radio = 4 wheat 1 radio = 2 wheat

    Apply the 20 minutes Ted would need to make a radio. If he used those 20 minutes, he could
    have 4 units of wheat. Therefore, the opportunity cost is 4. For Nancy, since she only gives up
    time for making 2 units of wheat, she has the lower opportunity cost.

    Now, switch the ratios and you find the opportunity costs of spending time making a unit of
    wheat.
    Below are problems from prior AP courses:

    Absolute (AA) and Comparative (CA) Advantages: Problems


    Absolute: Make the most (if using similar resources). Comparative Outputs: Lowest opportunity costs
    Comparative Inputs: Least resources or effort needed to make one unit
    #1. Hats Bicycles
    Delta 1200 300
    Epsilon 600 300
    AA Hats = AA Bicycles = CA Hats = CA Bicycles =
    Trade can occur: _____________ hats for _____1___________ bicycles

    #2. Fish Wheat


    Alpha 10 labor hours 20 labor hours
    Beta 20 labor hours 80 labor hours
    AA Fish = AA Wheat = CA Fish = CA Wheat =
    Trade can occur: _____________ fish for _________1_______ wheat

    #3. Cloth Food


    Gamma 10 2
    Kappa 10 1
    AA Cloth = AA Food = CA Cloth = CA Food =
    Trade can occur: _____________ cloth for _____1__________ food

    #4. Cars Tractors


    Lambda 30 10
    Mu 20 40
    AA Cars = AA Tractors = CA Cars = CA Tractors =
    Trade can occur: ____________ cars for _______1_______ tractors

    #5.
    Watches
    40 Omega

    10 Phi

    10 20 Radios

    AA Watches = AA Radios = CA Watches = CA Radios =


    Trade can occur: __________ watches for _______1______ radios

    #6 Minutes needed to produce 1 Minutes needed to produce 1 bushel of wheat


    radio
    Ted 20 minutes 5 minutes
    Nancy 30 minutes 15 minutes
    AA Radios AA Wheat CA Radios CA Wheat
    Trade can occur: __________ radios for ______1_____wheat

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