Gains from trade

Consider two neighbouring island countries called Contente and Felicidad. They each have 4 million labour hours available per week that they can use to produce jeans, rye, or a combination of both. The following table shows the amount of jeans or rye that can be produced using one hour of labour.

Country Jeans(Pairs per hour of labour). Rye(Bushels per hour of labour)

Contente 12 24

Felicidad 8 32

Initially, suppose Contente uses 1 million hours of labour per week to produce jeans and 3 million hours per week to produce rye, while Felicidad uses 3 million hours of labour per week to produce jeans and 1 million hours per week to produce rye. Consequently, Contente produces 12 million pairs of jeans and 72 million bushels of rye, and Felicidad produces 24 million pairs of jeans and 32 million bushels of rye. Assume there are no other countries willing to trade goods, so, in the absence of trade between these two countries, each country consumes the amount of jeans and rye it produces.

Contente's opportunity cost of producing 1 pair of jeans is ________of rye, and Felicidad's opportunity cost of producing 1 pair of jeans is __________of rye. Therefore, ________has a comparative advantage in the production of jeans, and _________has a comparative advantage in the production of rye.

Suppose that each country completely specializes in the production of the good in which it has a comparative advantage, producingonlythat good. In this case, the country that produces jeans will produce ____ millionpairs per week, and the country that produces rye will produce ________ millionbushels per week.

In the following table, enter each country's production decision on the row of the table marked "Production." Suppose the country that produces jeans trades 26 million pairs of jeans to the other country in exchange for 78 million bushels of rye.

In the following table, select the amount of each good that each country exports and imports in the boxes across the row marked "Trade," and enter each country's final consumption of each good on the line marked "Consumption."

When the two countries did not specialize, the total production of jeans was 36 million pairs per week, and the total production of rye was 104 million bushels per week. Because of specialization, the total production of jeans has increased by _____ millionpairs per week, and the total production of rye has increased by _____ millionbushels per week.

Because the two countries produce more jeans and more rye under specialization, each country is able to gain from trade.

Calculate the gains from tradethat is, the amount by which each country has increased its consumption of each good relative to the first row of the table. In the following table, enter this difference in the boxes across the last row (marked "Increase in Consumption").

ContentE Felicidad

Jeans Rye Jeans Rye

Without Trade

Production 12 72 24 32

Consumption 12 72 24 32

With Trade

Production ___ ____ ______ ____

Trade import 26 export 78 export 26 import 78

Consumption ____ ______ _______ _______

Gains from Trade

Increase in Consumption _____ _______ _______ ________