This preview shows page 7 - 9 out of 9 pages.

7
Comparative Advantage Comparative advantage represents the ability to produce a good at a lower opportunity cost than another producer. Japan has a lower opportunity cost of producing computers than the U.S. Japan has a comparative advantage in producing computers and the U.S. has a comparative advantage in producing wheat. Gains from Specialization and Trade When each producer specializes in producing the good for which she has a comparative advantage, total production in the economy rises. Example: Suppose the US produces 3400 tons of wheat. How many computers would they be able to produce with the labor left over 3400 * 10= 34000 TOTAL LABOR US= 50000 Remaining labor is 16000 Rate of 100 hrs x1 computers= how many computers 16000/100= 160 computers Production combination= 160 computers & 34000 tons of wheat Suppose japan produces 240 computers. How many tons of wheat would japan be abale to produce? 0 tons of wheat Suppose the U.S. exports 700 tons of wheat to Japan, and imports 110 computers from Japan. - How much of each good is consumed in Japan? - US Consumption Computers Wheat 160 + 110 0 3,400 0 -700 270 computers 2700 wheat Japan Consumption Computers Wheat 240 + 0 -110 0 + 700 0 130 700 The Price of Trade The price of traded items must be at a mutually good spot for both parties. For example, if the price of computers was less than the price of wheat, both the US and Japan would 8
want to buy computers. In the opposite, if the price of selling wheat was higher than the price of computers, both the US and Japan would want to sell wheat and not computers. Applications of Comparative Advantage (BOOK EXAMPLE) Let’s say that Serena can mow her lawn in 2 hours. In that same 2 hours, she could film a television commercial and earn \$30,000. By contrast, Forrest Gump, the boy next door, can mow Serena’s lawn in 4 hours. In that same 4 hours, Forrest could work at McDonald’s and earn \$50 . In this example, just because Serena can mow her lawn faster than Forrest Gump, doesn’t mean she should. Serena’s opportunity cost of mowing the lawn is 30,000 whereas Forrest’s opportunity cost is 50. As long as Serena pays Forrest more than \$50 and less than \$30,000, both of them are better off. Just because one person is better at everything doesn’t mean they should DO everything. Its not efficient for one person to do everything even if they are good at. Imports- goods produced abroad and sold domestically Exports- goods produced domestically and sold abroad Absolute Advantage - the ability of a party (an individual, or firm, or country) to produce a greater quantity of a good, product, or service than competitors, using the same amount of resources. 9

You've reached the end of your free preview.

Want to read all 9 pages?

• Spring '07
• Joyce