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DiscWeek3Chapter2,3

# DiscWeek3Chapter2,3 - Discussion Week 3 Chapter 2...

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Discussion Week 3: Chapter 2 Production Possibilities February 10, 2008 Production Possibility Frontier: a graph of the maximum attainable combinations of two products that can be produced using available resources Absolute Advantage: the ability to produce more of a good or service than a competitor using the same amount of recourses. Comparative Advantage: the ability to produce a good or service at a lower opportunity cost than a competitor A linear example: Wisconsin and California each can produce only 2 drinks: milk and wine. If Wisconsin chooses to produce only milk it will produce 10 gallons. If Wisconsin produces wine, for each gallon of wine it costs 2 gallons of milk. California can produce 4 gallons of wine, but must give up 2 gallons of wine for each gallon of milk produced. (i) Graph the production possibility frontiers for the two states. (ii) What is the opportunity cost of producing milk in Wisconsin? What is the opportunity cost of producing milk in California? What is the opportunity cost of producing wine in both states? Milk: Wisc: (5/10) = ½ gallons of wine Cali: (4/2) = 2 gallons of wine Wine: Wisc: (10/5) = 2 gallons of milk Cali: (2/4) = ½ gallons of milk (iii) Who has the comparative advantage in the production of milk? In wine? Wisconsin has the comparative advantage in milk. This is because Wisconsin has a lower opportunity cost to produce milk than California does. Similarly, California has the comparative advantage in wine, because their opportunity cost (in terms of giving up milk) is lower. (iii) Who has the absolute advantage in the production of each drink? Wisconsin has the absolute advantage in milk and wine . By allocating all of their resources, they could produce more of either. (v) If the states were to trade with each other, which drink should Wisconsin import from California? Wisconsin should import Wine from California. Even though they have an absolute advantage in the production of both, Wisconsin would prefer to use all of their resources to produce their comparative advantage, milk.

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