4. Specialization and trade

When a country has a comparative advantage in the production of a good, it means that it can produce this good at a lower opportunity cost than its trading partner. Then the country will specialize in the production of this good and trade it for other goods.

The following graphs show the production possibilities frontiers (PPFs) for Shenandoah and Congaree. Both countries produce peas and pistachios, each initially (i.e., before specialization and trade) producing 24 million pounds of peas and 12 million pounds of pistachios, as indicated by the grey stars marked with the letter A.

Shenandoah08162432404856646456484032241680PISTACHIOS (Millions of pounds)PEAS (Millions of pounds)PPFA

Congaree08162432404856646456484032241680PISTACHIOS (Millions of pounds)PEAS (Millions of pounds)PPFA

Shenandoah has a comparative advantage in the production of , while Congaree has a comparative advantage in the production of . Suppose that Shenandoah and Congaree specialize in the production of the goods in which each has a comparative advantage. After specialization, the two countries can produce a total of

millionpounds of pistachios and

millionpounds of peas.

Suppose that Shenandoah and Congaree agree to trade. Each country focuses its resources on producing only the good in which it has a comparative advantage. The countries decide to exchange 24 million pounds of peas for 24 million pounds of pistachios. This ratio of goods is known as the price of tradebetween Shenandoah and Congaree.

The following graph shows the same PPF for Shenandoah as before, as well as its initial consumption at point A. Place a black point (plus symbol) on the graph to indicate Shenandoah's consumption after trade.

Note: Dashed drop lines will automatically extend to both axes.

ShenandoahConsumption After Trade08162432404856646456484032241680PISTACHIOS (Millions of pounds)PEAS (Millions of pounds)PPFA

The following graph shows the same PPF for Congaree as before, as well as its initial consumption at point A.

As you did for Shenandoah, place a black point (plus symbol) on the following graph to indicate Congaree's consumption after trade.

CongareeConsumption After Trade08162432404856646456484032241680PISTACHIOS (Millions of pounds)PEAS (Millions of pounds)PPFA

True or False: Without engaging in international trade, Shenandoah and Congaree would have been able to consume at the after-trade consumption bundles. (Hint: Base this question on the answers you previously entered on this page.)

True

False