CHAPTER 3 EXCHANGE AND MARKETS 1. Chapter Summary 2. Chapter Objectives 3. Chapter Outline Teaching Tips/Topics for Class Discussion 4. Extended Examples Extended Example 1: Comparative Advantage and Nations Extended Example 2: The North American Free Trade Agreement 5. Problems And Discussion Questions 6. Model Answers to Questions: Chapter Opening Questions Test Your Understanding Using the Tools 7. Economics Applied - Using What You’ve Learned 1. Chapter Summary . The concept of comparative advantage and dividing production to minimize opportunity costs shows why individuals gain through specialization and exchange, the basis for the existence of markets. Specialization increases productivity through the division of labor. A system of international specialization and trade is sensible because nations have different opportunity costs of producing goods, giving rise to comparative advantages. Markets emerge because self-interested people guided by prices, make decisions about what products to produce, how to produce them and whom they are produced for. The government's roles in a market economy include establishing the rules for exchange, reducing economic uncertainty, and responding to market failures 2. Chapter Objectives 1. Why aren't people self-sufficient, producing everything themselves markets exist? 2. Why have the economies of the former Soviet Union and China moved away from central planning, relying to a greater extent on market dynamics? 3. Why are profits an important part of a market economy? 4. How does EverQuest, the online multiplayer adventure game, illustrate the benefits of exchange and markets? 20
21 Chapter 3 3. Chapter Outline I. Comparative Advantage and Exchange A. Specialization and the Gains From Trade 1. Numerical Example: 2 individuals (Abe, Bea), 2 goods (pizza per day, paintings produced per hour). Abe can produce 6 pizzas per day or 2 paintings; Bea can produce 1 pizza per day or 1 painting. 2. We can calculate the opportunity cost of each person’s production; the principle of opportunity cost states that the opportunity cost of something is what you sacrifice to get it. a. Abe’s opportunity cost of producing 1 painting is 3 pizzas per day; her opportunity cost of producing 1 pizza per day is 1/3 painting. b. Bea’s opportunity cost of producing 1 painting is 1 pizza per day; his opportunity cost of producing 1 pizza per day is 1 painting. 3. Abe has a comparative advantage in pizza per day because she gives up fewer paintings (1/3 < 1); Bea has a comparative advantage in paintings because he gives up less pizza per day (1 < 3). 4. Specialization is beneficial if there are differences in opportunity costs as it increases the production of the group or society. Teaching tips: Ask the class what their parents do for a living. In a normal classroom,
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