Absolute%20and%20Comparative%20Advantage

Absolute%20and%20Comparative%20Advantage - Ghana is more...

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The Theory of Absolute & Comparative Advantage Adam Smith David Ricardo IB200 1
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Assumptions Only two countries and two goods; zero transportation costs between countries; similar prices and values of resources in the two countries (ignored the exchange rates); resources are mobile between goods within countries, but not across countries; constant returns to scale (the amount of resources to produce a good are assumed not to increase or decrease with specialization) fixed stocks of resources; no effects on income distribution within countries IB200 2
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COMPARATIVE ADVANTAGE What might happen when one country has an absolute advantage in the production of all goods Specialize in the production of those goods that it produces most efficiently Buy the goods that it produces less efficiently from other countries, even if this means buying goods from other countries that it could produce more efficiently itself IB200 3
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Example Assume:
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Unformatted text preview: Ghana is more efficient in the production of both cocoa and rice In Ghana, it takes 10 resources to produce one tone of cocoa, and 13 1/3 resources to produce one ton of rice So, Ghana could produce 20 tons of cocoa and no rice, 15 tons of rice and no cocoa, or some combination of the two In South Korea, it takes 40 resources to produce one ton of cocoa and 20 resources to produce one ton of rice So, South Korea could produce 5 tons of cocoa and no rice, 10 tons of rice and no cocoa, or some combination of the two If each country specializes in the production of the good in which it has a comparative advantage and trades for the other, both countries will gain. IB200 4 Gain from trade With trade: Ghana could export 4 tons of cocoa to South Korea in exchange for 4 tons of rice Ghana will still have 11 tons of cocoa, and 4 additional tons of rice South Korea still has 6 tons of rice and 4 tons of cocoa IB200 5 IB200 6...
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Absolute%20and%20Comparative%20Advantage - Ghana is more...

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