ECO202 - Assignment 8.1

Absolute and Comparative Advantage

Example problem:

Anna can produce either 18 oranges or 9 apples an hour, while Beth can produce either 16 oranges or 4 apples an hour.

Absolute Advantage: Look at who makes more per hour.

• Anna picks more oranges in an hour than Beth; Anna has the absolute advantage in oranges.
• Anna also picks more apples in an hour than Beth; Anna has the absolute advantage in apples.

Comparative Advantage: Look at who has the lowest opportunity cost for each item.

• First, calculate opportunity cost for each person and fruit.

	Anna	Beth
Orange
Apple

• Now, evaluate who has the lowest opportunity cost for each item.
  • Beth has the lowest opportunity cost for oranges; she should pick oranges.
  • Anna has the lowest opportunity cost for apples; she should pick apples.

Trade: Determine if Anna and Beth are better specializing and then trading by comparing production without trade and with trade.

• If Anna split the workday of eight hours evenly between oranges and apples, she would pick 72 (18x4) oranges and 36 (9x4) apples.
• If Beth split her eight-hour workday evenly between oranges and apples, she would pick 64 (16x4) oranges and 16 (4x4) apples.
• Under this scenario a total of 136 oranges and 52 apples are picked.
• If Beth specializes in oranges, she would pick 128 oranges, and if Anna specializes in apples she would pick 144 apples.
• With specialization and trade Anna and Beth have a few less oranges total but a lot more apples. It makes sense to specialize and trade.

1. Suppose that the USA can make 15,000,000 cars or 20,000,000 bottles of wine with one year's worth of labor. France can make 10,000,000 cars or 18,000,000 bottles of wine with one year's worth of labor. From these numbers, we can conclude:

A. Which country has the absolute advantage in producing cars? (5 points)

B . Which country has the absolute advantage in producing wine? (5 points)

C. Which country has the comparative advantage in producing cars? Which country has the comparative advantage in producing wine? (Show opportunity cost calculations.) (10 points)

D. Should these two countries trade? Why or Why not? (10 points)

E. What would you suggest each of these countries produce? Explain your answer. (Make sure to include the number of cars and bottles of wine each country should produce.) (10 points)

2. Assume that one day's labor in Argentina can produce either 20 units of cloth or 2 units of wine, while in Chile one day's labor can produce either 24 units of cloth or 12 units of wine.

A. Which country has the absolute advantage in producing cloth? (5 points)

B. Which country has the absolute advantage in producing wine? (5 points)

C. Which country has the comparative advantage in producing cloth? Which country has the comparative advantage in producing wine? (Show opportunity cost calculations.) (10 points)

D. Should these two countries trade? Why or Why not? (10 points)

E. What would you suggest each of these countries produce? Explain your answer. (Make sure to include the amount of cloth and amount of wine each country should produce.) (10 points)

3. Steve and Craig have been shipwrecked on a deserted island in the South Pacific. Their economic activity consists of either gathering pineapples or fishing. We know Steve can catch four fish in one hour or harvest two baskets of pineapples. In the same time Craig can reel in two fish or harvest two baskets of pineapples.

A. If they each spend four hours a day fishing and four hours a day harvesting pineapples, how many of each will Steve produce? How many will Craig produce? What will their total production be? (10 points)

B. If they each specialize in either fishing or harvesting pineapples, what should Steve specialize in? What should Craig specialize in? What will their total production be? (Show opportunity cost calculations.) Should they specialize? Why or Why not? (10 points)