Chapter 6, Problem Set #5 – More Work with Comparative Advantage and Trade 1. Refer to the table below to answer the following countries. These two countries are producing textiles and wheat using equal amounts of resources.
Weekly Output per Worker
Bushels of Wheat
Units of Textiles
a. What is the opportunity cost of producing a bushel of wheat for each country?
Country A: 15 bushels wheat = 60 units textiles. 1 bushel wheat = 4 units textiles.
Country B: 10 bushels wheat = 60 units textiles. 1 bushel wheat = 6 units textiles. b. Which country has the absolute advantage in wheat production? Explain.
Country A. They can produce 15 bushels of wheat while Country B can only produce 10 bushels of wheat with the same resources.
c. Which country has the comparative advantage in textile production? Explain.
Country A: 60 units textiles = 15 bushels wheat. 1 unit textiles =1/4 bushel wheat. Country B: 60 units textiles – 10 bushels wheat. 1 unit textiles = 1/6 bushel wheat. Country B has comparative advantage in textile production because its opportunity cost for textiles is lower.
d. Determine the terms of trade that would be beneficial to both countries. Include which country will be exporting which good and which will be importing which good.
Country A will produce and export wheat because its opportunity cost for wheat is lower. It must receive at least 4 units of textiles for each bushel of wheat. Country B will not pay more than 6 units of textiles for each bushel of wheat. Therefore: 4t < 1w < 6t Note: you could also state this in terms of textiles. In that case, your terms of trade would be:
1/6w < 1t < 1/4w
2. Use the graph for the following questions.
a. Which country has an absolute advantage in the production of each good?
Country A has absolute advantage in wheat.
Country B has absolute advantage in textiles.
b. For Country A, what is the opportunity cost of a bushel of wheat? For Country B?
Country A: 200 bushels wheat = 100 units textiles. 1 bushel wheat = ½ unit textiles.
Country B: 100 bushels wheat = 150 units textiles. 1 bushel wheat = 1.5 units textiles.
d. If the countries specialize and trade, which country will import wheat?
Country B. (Because they will produce and export textiles.)
e. What is the highest price that country (by “that country” I mean the country that will be importing wheat, which is Country B) will be willing to pay for a bushel of wheat? Explain
1.5 units of textiles. This is because Country B’s opportunity cost for 1 bushel of wheat is 1.5 units of textiles.
3. In Italy, an automobile can be produced by 8 workers in one day and a washing machine by 3 workers in one day. In the United States, an automobile can be produced by 6 workers in one day, and a washing machine by 2 workers in one day.
a. Which country has an absolute advantage in the production of automobiles? In washing machines?
The U.S. has absolute advantage in automobiles and in washing machines. (Because, given the same number of workers, it could produce more of both since it requires fewer workers to make each.)
b. Which country has comparative advantage in the production of automobiles? In washing machines? Explain.
Remember, you could find opportunity cost for an input problem 3 ways. They all lead to the same answer:
First, you can turn it into an output problem. If the U.S. had 6 workers, they could produce 1 automobile or 3 washing machines. Therefore, there opportunity cost for 1 automobile is 3 w.m.’s. If Italy had 8 workers, they could produce 1 automobile or 8/3 washing machines. There opportunity cost for 1 automobile is 8/3, or 2 2/3, washing machines. Simply use the inverse to find the opportunity cost for the other good for each country. (See answer below)
Second, you could set equal those things that are equal and solve, so for the U.S.,
6 workers/1 auto = 2 workers/1 wm
We can simplify that to 6/auto = 2/wm. If we cross-multiply, we get 1 auto = 3 wm.
Third, we can use the “other good goes under” rule for input problems. In this case, for the U.S., our number for automobiles is 6. Put the number for the other good under that, as the denominator in the fraction. So the opportunity cost for autos is 6/2, or 3, washing machines. (Just put the 2 from washing machines under the 6 from autos.) Remember the opportunity cost for one good is always given in terms of the second good, so it’s 6/2 washing machines, in this case.
However you calculate opportunity cost, you will come up with the following values:
Opportunity Cost for automobiles:
Italy: 1 washing machine = 3/8 automobiles. Italy has comparative advantage in automobiles because its opportunity cost is lower. The U.S. has comparative advantage in washing machines because its opportunity cost is lower. c. Which country should specialize in the production of automobiles? Of washing machines?
Italy should specialize in automobiles.
The U.S. should specialize in washing machines. d. Define the terms of trade that would be beneficial to both countries.
Italy will produce and export automobiles. It must receive at least 2 2/3 washing machines for each automobile. The U.S. will import automobiles and will not pay more than 3 washing machines for each automobile. Therefore: 2 2/3 wm < 1a < 3 wm
4. Use the graph at left to answer the following:
a. What is the opportunity cost of a bushel of corn in each country?
b. Which country has an absolute advantage in computer production?
Country B. (They can produce 500 compared to 200 for Country A.) c. Which country has a comparative advantage in the production of corn? Explain.
Country A. Their opportunity cost for corn is lower. (1/4 computer vs. 1.25 computers)
d. If these countries specialize and trade, what good will Country B import. Explain.
Country B will import corn because Country A has comparative advantage in corn, so Country A will specialize in the production of corn. Country B has comparative advantage in computers, so it will produce and export computers. e. What is the minimum price that Country A will accept to export corn to Country B? Explain.
Country A will insist upon at least ¼ computer for each bushel of corn (or 1 computer for 4 bushels of corn) because that is its opportunity cost for producing corn.