Chapter 2 Comparative Advantage Q. 1, 3, 5, 7

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# Chapter 2 Comparative Advantage Q. 1, 3, 5, 7 - PowerPoint PPT Presentation

Chapter 2 Comparative Advantage Q. 1, 3, 5, 7. Q. 9 Please see under “Answers” from the tutorial weekly schedule. Problem #1, Chapter 2 .

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Chapter 2Comparative AdvantageQ. 1, 3, 5, 7

Problem #1, Chapter 2
• Ted can wax 4 cars per day or wash 12 cars. Tom can wax 3 cars per day or wash 6. What is each man’s opportunity cost of washing a car? Who has comparative advantage in washing cars?
Solution to problem #1 (1)
• Both Ted and Tom have two options to choose from: waxing cars or washing cars
• If one chooses to wax (wash) cars, one will have to forgo washing (waxing) cars
• Opportunity Cost
• The value of your next best alternative that you must forgo in order to engage in your current activities
Solution to problem #1 (2)

Ted

• If Ted chooses to wash a car, he will have to forgo having 1/3 car waxed
• The 1/3 car wax forgone is actually his opportunity cost of having a car wash
• Opportunity cost = relative efficiency of two activities
• Units of forgone activity you can do in a given amount of time/ Units of current activity you can do in a same given amount of time
Solution to problem #1 (3)
• Applying the above formula, we can also compute Ted’s opportunity cost of waxing a car
• 12 units of car wash forgone in an hour / 4 units of car wax can be performed in an hour
• Ted’s opportunity cost of waxing a car is 3 units of car wash

Tom

• Similarly, Tom’s opportunity cost of washing a car is
• 3 units of car wax forgone in an hour/ 6 units of car wash can be performed in an hour
• Tom’s opportunity cost of washing a car is 0.5 unit of car wax
Solution to problem #1 (4)
• We can also compute Tom’s opportunity cost of waxing a car using the formula discussed
• 6 units of car wash forgone in an hour / 3 units of car wax can be done in an hour
• Tom’s opportunity cost of waxing a car is 2 units of car wash
• Who has a comparative advantage in washing cars?
Solution to problem #1 (5)
• Notion of comparative advantage refers to one’s relative efficiency in doing an activity over that of the other person
• In other words, if one has a comparative advantage in an activity over another person’s, one will have a lower opportunity cost of doing the activity than the other person
• Since Ted has a lower opportunity cost of washing cars (1/3 units of car wax forgone) than Tom whose opportunity cost of washing cars is 1/2 units of car wax forgone), TED HAS A COMPARATIVE ADVANTAGE IN WASHING A CAR
• Same logic can be applied to comparative advantage in waxing cars
Problem #3, Chapter 2
• Toby can produce 5 gallons of apple cider or 2.5 ounces of feta cheese per hour. Kyle can produce 3 gallons of apple cider or 1.5 ounces of feta cheese per hour. Can Toby and Kyle benefit from specialization and trade? Explain.
Solution to problem #3 (1)
• In order to answer this question, we will need to compute the opportunity costs of producing apple cider and feta cheese per hour
• Both Toby and Kyle have two options to choose from: producing apple cider or feta cheese
Solution to problem #3 (2)

Toby

• Opportunity cost of producing apple cider
• 2.5 units of feta cheese forgone in an hour / 5 units of apple cider produced in an hour
• Toby’s opportunity cost of producing apple cider is 1/2 units of feta cheese
• Opportunity cost of producing feta cheese
• 5 units of apple cider forgone in an hour / 2.5 units of feta cheese produced in an hour
• Toby’s opportunity cost of producing feta cheese is 2 units of apple cider
Solution to problem #3 (3)

Kyle

• Opportunity cost of producing apple cider
• 1.5 units of feta cheese forgone in an hour / 3 units of apple cider produced in an hour
• Kyle’s opportunity cost of producing apple cider is 1/2 units of feta cheese
• Opportunity cost of producing feta cheese
• 3 units of apple cider forgone in an hour / 1.5 units of feta cheese produced in an hour
• Kyle’s opportunity cost of producing feta cheese is 2 units of apple cider
Solution to problem #3 (4)
• Both of them have the opportunity costs of producing apple cider and feta cheese (1/2 units of feta cheese and 2 units of apple cider respectively)
• They do not have a comparative advantage in producing apple cider or feta cheese over each other
• Since benefits from trade rely on different opportunity costs among trading parties, there will be no gain from trade / specification
• In other words, no comparative advantage = no gain from trade. Comparative advantage is from source of difference in technology, education attainment and skills
Problem #5, Chapter 2
• Consider a society consisting of only Helen, who allocates her time between sewing dresses and baking bread. Each hour she devotes to sewing dresses yields 4 dresses, and each hour devotes to baking bread yields 8 loaves of bread. If Helen works a total of 8 hours per day, graph her production possibilities curve.
Solution to problem #5 (1)
• Under scarcity, each faces a time constraint
• Helen has a total of 8 hours to either sewing dresses or baking bread
• If Helen devotes all her available time to sewing dresses, she can sew 32 dresses a day (4 dresses per hour x 8 hours)
• If Helen devotes all her available time to baking bread, she can bake 64 loaves of bread a day (8 loaves of bread per hour x 8 hours)
Solution to problem #5 (2)
• Production possibilities curve
• a curve showing different quantities of two goods (sewing dresses and baking bread)that an economy(Helen)can efficiently produce with a given amount of resources(a time constraint of 8 hours per day)

Dressed sewed per day

Slope of the curve = opportunity cost

32

1

Loaves of bread baked per day

2

64

0

Solution to problem #5 (3)
• It does not matter what is on x-axis or y-axis as long as the graph is well-labeled

Loaves of bread baked per day

64

Dresses sewed per day

32

0

Problem #7, Chapter 2
• Suppose that in problem # 5 a sewing machine is introduced that enables Helen to sew 8 dresses per hour rather than only 4. Show how this development shifts her production possibilities curve.
Solution to problem #7 (1)
• Suppose Helen now has a sewing machine to work with, her productivity in sewing dresses is increased from 4 dresses per day to 8 dresses per day. A 100% increase in the productivity
• Given that she only has 8 hours to work a day, if she devotes all her time to sewing dresses, she can now work with the sewing machine and sew 64 dresses a day (8 dresses per hour x 8 hours)
Solution to problem #7 (2)

Dresses sewed per day

64

The productivity has increased from 32 dresses to 64 dresses a day

A sewing machine is introduced

32

Loaves of bread baked per day

64

0