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2 Problem Problems Chapter 1.5, page 58 ONE OF THE TRADE-OFFS BMW FACES IS BETWEEN SAFETY AND GAS MILEAGE. FOR EXAMPLE, ADDING STEEL TO A CAR MAKES IT SAFER BUT ALSO HEAVIER, WHICH RESULTS IN LOWER GAS MILEAGE. DRAW A HYPOTHETICAL PRODUCTION POSSIBILITIES FRONTIER THAT BMW ENGINEERS FACE THAT SHOWS THIS TRADE-OFF Answer Problem 3.8 page 62 IN THE WEALTH OF NATIONS, ADAM SMITH WROTE THE FOLLOWING (BOOK 1, CHAPTER II):IT IS NOT FROM THE BENEVOLENCE OF THE BUTCHER, THE BREWER, OR THE BAKER THAT WE EXPECT OUR DINNER, BUT FROM THEIR REGARD TO THEIR OWN INTEREST. WHAT DID HE MEAN BY THIS? Answer Adam Smith was making the invisible hand argument that, in pursuing their self-interest, business people end up producing the goods and services most desired by consumers. Problem 2.4 Pages 60-61 USING THE SAME AMOUNT OF RESOURCES, THE UNITED STATES AND CANADA CAN BOTH PRODUCE LUMBERJACK SHIRTS AND LUMBERJACK BOOTS , AS SHOWN IN THE FOLLOWING PRODUCTION POSSIBILITIES FRONTIERS. 12 United States Canada 6 3 3 4 3 3 6 Q boots Q boots Questions a. Who has a comparative advantage in producing lumberjack boots? Lumberjack shirts? b. Does either country have an absolute advantage in producing both goods? c. Suppose both countries are currently producing 3 pairs of boots and 3 shirts. Show that each country can be better off if they specialize in producing one good and then engage in trade Answers a . Canada has the comparative advantage in making boots. Canadas opportunity cost of making one boot is giving up one shirt. In the United States, the opportunity cost of making one boot is giving up three shirts. The United States has the comparative advantage in making shirts. In the United States, the opportunity cost of making one shirt is giving up one-third of a boot, but Canadas opportunity cost of making one shirt is one boot. a. Neither country has an absolute advantage in making both goods. The United States has the absolute advantage in shirts, but Canada has the absolute advantage in boots. Remember, both countries have the same amount of resources. If each country puts all their resources into shirts, then the U.S. makes 12 shirts, but Canada makes only 6 shirts. If each country puts all their resources into boots, then Canada makes 6 boots, but the United States makes only 4 boots. If both countries specialize in the good in which they have a comparative advantage and then trade with the other, they can both be better Lets off. use the case in which each trades half of what it makes for half of what the other makes. The United States will specialize by making 12 shirts and Canada will specialize by making 6 boots. Since each gets half of the others production, they both end up with 6 shirts and 3 boots. This means they are better off than before trading, because they end up with the same amount of boots, but twice as many shirts. Other trades will also make them better off. c. Problem 2.6 Page 61 SUPPOSE FRANCE AND GERMANY BOTH PRODUCE SCHNITZEL AND WINE. THE FOLLOWING TABLE SHOWS THE COMBINATIONS OF THE GOODS EACH COUNTRY CAN PRODUCE IN A DAY. France Wine 0 1 2 3 4 Schnitzel 8 6 4 2 0 Wine 0 1 2 3 4 5 Germany Schnitzel 15 12 9 6 3 0 Questions a. Who has a comparative advantage in producing wine? Schnitzel? b. Suppose France is currently producing 1 wine and 6 schnitzel, and Germany is producing 3 wine and 6 schnitzel. Demonstrate that both countries are better off if the specialize and trade. Answers a. When France produces 1 more bottle of wine, it produces 2 fewer pounds of schnitzel. When Germany produces 1 more bottle of wine, it produces 3 fewer pounds of schnitzel. Therefore, Frances opportunity cost of producing wine2 pounds of schnitzelis lower than Germanys3 pounds of schnitzel. When Germany produces 1 more pound of schnitzel, it produces 0.33 fewer bottles of wine. When France produces 1 more pound of schnitzel, it produces 0.50 fewer bottles of wine. Therefore, Germanys opportunity cost of producing schnitzel0.33 bottles of wineis lower than that of France0.50 bottles of wine. We can conclude that France has the comparative advantage in making wine and that Germany has the comparative advantage in making schnitzel. We know that France should specialize where it has a comparative advantage and Germany should specialize where it has a comparative advantage. If both countries specialize, France will make 4 bottles of wine and 0 pounds of schnitzel, and Germany will make 0 bottles of wine and 15 pounds of schnitzel. After both countries specialize, France could then trade 3 bottles of wine to Germany in exchange for 7 pounds of schnitzel. This will give France the same amount of wine as they initially had, but an extra 1 pound of schnitzel. Germany will have 3 bottles of wine and 8 pounds of schnitzelthat is, the same amount of wine, but more schnitzel. Other mutually beneficial trades are possible as well. b. ... View Full Document

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