Comparative advantage and opportunity cost pdf
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- Comparative advantage
- Opportunity cost and comparative advantage using an output table
- Comparative advantage
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What happens to the possibilities for trade if one country has an absolute advantage in everything? This is typical for high-income countries that often have well-educated workers, technologically advanced equipment, and the most up-to-date production processes. These high-income countries can produce all products with fewer resources than a low-income country. If the high-income country is more productive across the board, will there still be gains from trade?
Donate Login Sign up Search for courses, skills, and videos. Comparative advantage, specialization, and gains from trade. Comparative advantage and absolute advantage. Opportunity cost and comparative advantage using an output table. Terms of trade and the gains from trade. Input approach to determining comparative advantage. When there aren't gains from trade.
Comparative advantage worked example. Lesson summary: Comparative advantage and gains from trade. Practice: Comparative advantage and the gains from trade. Next lesson. Current timeTotal duration Google Classroom Facebook Twitter. Video transcript - [Tutor] What we're going to do in this video is draw a connection between the idea of opportunity cost of producing a good in a certain country and comparative advantage between countries in a certain good and below, right over here we have a chart, that shows production possibility curves for two different countries and as we see in many economic models, this is a, I would argue oversimplified model, but it helps us get some insights, where in each country workers can only produce some combination of sneakers and basketballs and to help us understand this and to appreciate that you can see this information in multiple ways, let's present this also as an output table, output table, which you will sometimes see and from either the production possibility curves or from the output table, we can calculate the opportunity costs of shoes and the opportunity costs of basketballs and then try to deduce some things about comparative advantage.
So in an output table, we would look at country A and we would look at country B and we would think about, well, what is the max, and I'll just draw it, what is the max basketballs and this is all per worker per day and we would also think what is the max shoes, shoes, those look like socks, but you get the idea, once again, per worker per day and so let me draw a little chart here, so we can do that and so what I'd like you to do is pause this video and see if you can fill in this chart, what is the maximum basketballs per worker per day in country A and then in country B and then do the same thing for shoes.
Alright, now let's work this together, so first in country A, what is the maximum number of basketballs? Well, if in country A, they put all of their energy into basketballs, we are right over here on the production possibilities curve, they can produce eight basketballs and if on the other end of the curve, they put all of their energy into shoes, they would produce no basketballs and six pairs of shoes, we're assuming that these are pairs of shoes, that we're talking about, six pairs of shoes and similarly if we go to company, laughs if we go to country B, I keep saying company, instead of country, if we go to country B, if we say what's the maximum number of basketballs, well, if they put all their energy into basketballs, we get four basketballs and no pairs of shoes, so that's four basketballs, but then if they put all of their energy into pairs of shoes, they produce no basketballs, they could produce four pairs of shoes and so it's as simple as that, this output table is just showing the extremes from the production possibility curves for these countries.
Now with the information about the output table and these production possibility curves, let's calculate the opportunity cost, so let me set up another table and let me just say this is going to be our opportunity cost table, OC, not Orange County, opportunity costs and once again, it's going to be for country A and country B and we're gonna think about the opportunity costs of producing basketballs and that's gonna be in terms of pairs of shoes and then the opportunity costs for producing pairs of shoes and that's going to be in terms of basketballs and so let me set up another table and so I encourage you once again, pause this video and see if you can fill in this table, what is the opportunity costs?
We'll start with what's the opportunity costs for producing basketballs in terms of shoes in country A? Alright, well there's a couple of ways to think about it, imagine a world in country A, where you're producing no basketballs and you're producing six pairs of shoes, but then if you were to increase the number of basketballs you produce by eight, so if you add eight basketballs, well, you're gonna give up six pairs of shoes, you see that right over here, you give up six pairs of shoes and so in country A eight basketballs cost six shoes, let me write that down, so in country A, eight basketballs and I'll just say B for short, cost six, six S, S is shoes for short, or another way to think about it, if you divide both of these by eight, one basketball costs six over eight shoes, all I did was eight basketballs cost six shoes and one basketball's gonna cost six divided by eight pairs of shoes and so what is that gonna be?
Well, six over eight is the same thing as three fourths or three fourths of a pair of shoes, so one basketball costs three fourths of a pair of shoes or we could say that as 0. Now let's do the opportunity cost for a pair of shoes in either country, well, there's a couple of ways to think about it, you could just view it as the reciprocal or you could even go back to this equation right over here, if we are in country A, we would say six shoes, if we put all our energy in shoes, we could produce six of them or six pairs of shoes, I should say and if we put all of our energy into basketballs, we could produce eight basketballs, but if you divide by six, you get per pair of shoes and so per each pair of shoes, the energy to produce one pair of shoes is equivalent to the energy to produce eight sixths of a basketball and eight sixths is the same thing as four thirds of a basketball and if we wanted to write it as a decimal just for simplicity or maybe to make it easier to compare, we would say that this is approximately 1.
Well, in country B we could set up a similar type of equation, where the same energy for four shoes, I could produce four basketballs and that's essentially what we set up right over here on the left, you divide both sides by four, the energy of a shoe is equal to the energy of a basketball, or I should say the energy of a pair of shoes is equal to the energy of making a basketball, so the opportunity cost of making a pair of shoes is equal to one basketball.
So now we're ready to draw the connection, given the opportunity costs that we calculated, what country has the comparative advantage in basketballs? Pause this video and try to figure it out. So now let's look at the opportunity cost of producing a basketball in either country. Up Next.
Opportunity cost and comparative advantage using an output table
Countries benefit when they specialize in producing goods for which they have a comparative advantage and engage in trade for other goods. International trade is the exchange of capital, goods, and services across international borders or territories. Trading-partners reap mutual gains when each nation specializes in goods for which it holds a comparative advantage and then engages in trade for other products. In other words, each nation should produce goods for which its domestic opportunity costs are lower than the domestic opportunity costs of other nations and exchange those goods for products that have higher domestic opportunity costs compared to other nations. International Trade : Countries benefit from producing goods in which they have comparative advantage and trading them for goods in which other countries have the comparative advantage.
Opportunity cost measures a trade-off. A nation with a comparative advantage makes the trade-off worth it. The country may not be the best at producing something. But the good or service has a low opportunity cost for other countries to import. A lot of the raw ingredients are produced in the oil distillery process. Another example is India's call centers.
Comparative advantage is what a country produces for the lowest opportunity cost. It differs from absolute and competitive advantage.
The law of comparative advantage describes how, under free trade , an agent will produce more of and consume less of a good for which they have a comparative advantage. In an economic model , agents have a comparative advantage over others in producing a particular good if they can produce that good at a lower relative opportunity cost or autarky price, i. Instead, one must compare the opportunity costs of producing goods across countries .
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