What determines greater efficiency or lower costs? Costs of
production varies between countries because of factor endowments
types of factors of production a country is gifted with. Task:
Think of a countrys 2 or 3 major exports Research the relevant
factor endowments
Slide 4
u Imagine... only two goods: potatoes and meat only two people:
Mr. Jones and a Mrs. Choi u Should they each produce for their own
needs or should they trade? A Parable for comparative
advantage
Slide 5
Who is most efficient at each product? Would you think theres a
good reason to trade? The producer that requires a smaller quantity
of inputs (in this case, hours of labour) to produce a good is said
to have an absolute advantage in producing that good. Does that
mean Mrs. Choi has no reason to trade?
Slide 6
Consider Mr. Jones Production and consumption Possibilities
Frontier Potatoes (pounds) Meat (pounds) 4 2 1 2 0 A
Slide 7
Mrs. Chois Production and consumption Possibilities Frontier
Potatoes (pounds) Meat (pounds) 5 4 2 2.5 0 B
Slide 8
Compare the Opportunity Cost for each person producing Meat and
Potatoes Who has the comparative advantage for a) meat b) potatoes?
The producer who has the smaller opportunity cost of producing a
good is said to have a comparative advantage in producing that
good. 1 lb. of Meat1lb. Of Potatoes Mr. Jones2 lb. potatoes0.5 lb.
meat Mrs. Choi1.25 lb. potatoes0.8 lb. meat
Slide 9
The Gains from Trade: Suppose the terms of trade is 0.66 Lbs.
of meat for 1 Lbs. of Potatoes: using the data below, calculate how
much each person has gained. Can you show the new consumption
frontier after trade (on each PPF) has increased? Thats why its
good to trade even for Mrs. Choi!
Slide 10
Limitations of the theory To what extent are these assumptions
valid? there is perfect knowledge of cheapest products No cost is
involved for transportation Only 2 countries that trade costs do
not change, there are no EoS The goods traded are identical FoP
remain in the country Trade is perfectly free
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