MICRO NOTES NOT MINE.docx - COMPARATIVE ADVANTAGE AND COMPARITIVE ADVANTAGE COMPARATIVE ADVANTAGE AND THE BASIS FOR TRADE • Absolute advantage –

MICRO NOTES NOT MINE.docx - COMPARATIVE ADVANTAGE AND...

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. COMPARATIVE ADVANTAGE AND COMPARITIVE ADVANTAGE COMPARATIVE ADVANTAGE AND THE BASIS FOR TRADE • Absolute advantage – when one person is able to produce g&s or perform a task, with less resources than another person• Comparative advantage – when one person’s opportunity cost of producing g&s orperforming a task, is lower than another person’s opportunity cost• Principles of comparative advantage – everyone can do better when each personconcentrates on the activities for which their opportunity cost is lowest (ie comparativeadvantage) PRODUCTION POSSIBLITY CURVE • Production Possibility Curve (PPC) describes the maximum amount of one good that can be produced for every possible level of production of another good.- Assumptions1. There are only two possible productive activities2. There are only two individuals3. There are no transaction costs when trading and no other barriers to trade- All points on the PPC are called efficient points. 1. Efficient Production Point: currently available resources do not allow an increase inthe production of one good without a reduction in the production of the other- Inefficient points are points corresponding to situations where inputs are not used efficiently.2. Insufficient Production Point: currently available resources allow an increase in theproduction of one good without a reduction in the production of the other. All the points below and to the left of the PPC are inefficient.- However, both efficient and inefficient points are attainable points. 3. Attainable Production Point: can be produced with the currently available resources.All the points on the PPC or below and to the left of the PPC are attainable. - In contrast, the points to the right and above the PPC are called unattainable. 4. Unattainable Production Point: cannot be produced with the currently availableresources.Opportunity Cost: of a given action is the value of the next best alternative to that particular action. - To calculate the opportunity cost of producing one unit of the good depicted on the x-axis; divide the vertical intercept (y- axis) by horizontal intercept(x-axis). Vice versa - Greater the difference between two opportunity costs  greater the gains from specialisation. PRODUCTION POSSIBILIIES CURVE FOR A MANY-PERSON ECONOMY
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• Shape of the PPC reflects the Principle of Increasing Opportunity Cost ‘the low-hanging fruitprinciple’ – in expanding the production of any good, first employ those resources with thelowest opportunity cost and only afterwards turn to resources with higher opportunity costs. he greater the differences among individual’s opportunity costs, the more bow-shaped PPCwill be and the greater the potential gains from specialisation will be.• The slope of PPC becomes increasingly negative as we read from left to right, this shape isessentially due to the fact that resources are scarce.
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