Introduction to Macroeconomics

1. Introduction to Macroeconomics Chapter 2. Opportunity Cost, Specialization, and Trade

2. Chapter 2. Opportunity Cost, Specialization, and Trade • Microeconomics • Specialization by Individuals • Macroeconomics • Production Possibilities Curve • Applications

3. U.S. Trade in Goods, 2000(billions of dollars) Source: U.S. Bureau of Economic Analysis, Survey of Current Business, Table 2, July 2001.

4. Specialization by Individuals and Exchange • Reasons for Specialization by individuals (Division of Labor) • Exchange required • Costs of exchange

5. Reasons for Specialization(Division of Labor) • Increase skill from repetition • Reduce time wasted shifting between tasks • Incentive to invest resources in developing specialized tools and machines • Opportunity Cost

6. Opportunity Cost The highest valued alternative foregone (given up) in making any choice.

7. Calculating Opportunity Costs

8. Incentive to Specialize

9. Exchange prices

10. Costs of Exchange • Negotiation costs • Transportation costs • Artificial barriers to trade (e.g., import tariffs)

11. U.S. Trade in Goods with Mexico NAFTA Peso Crisis Source: U.S. Bureau of Economic Analysis, Survey of Current Business, Table 2, July 2001.

12. Notes Page

13. Production Possibilities Curve(PPC) Identifies all combinations of the maximum amount of any two goods or services that can be produced by a given economy.

14. Production Possibilities Curve B * * D * C * A

15. PPC Assumptions • Only 2 goods or services (or aggregates of goods or services) are produced • Full and efficient use of all available resources • Supplies of resources (i.e., land, labor, and capital) are fixed • Technology is held constant

16. Increase in Available Resourcesor Technology Improvement that benefits both products. PPC shifts outward (to the right), from PPC1 to PPC2. PPC2 PPC1

17. Increase in Available Resourcesor Technology Improvement that benefits Food production only. PPC1 PPC2

18. Increase in Available Resourcesor Technology Improvement that benefits clothing production only. PPC2 PPC1

19. Opportunity Cost and the PPC Two important characteristics of the PPC: • Opportunity Cost - The PPC slopes downward and to the right • Increasing Opportunity Cost - The PPC is "bowed outward" (concave) from the origin

20. Increasing Opportunity Cost As you increase production of food you sacrifice increasing quantities of clothing

21. Applications • Scarcity and Choice • the “cruel dilemma” facing less-developed countries • Opportunity Costs • staffing professors in two departments • Specialization • comparing 2 PPCs (comparative vs absolute advantage)

22. Scarcity and Choicethe Cruel Dilemma of the Poor Subsistence Level Production Possibilities Curve

23. Staffing University Departments

24. PPC - Staffing University Departments

25. Comparative and Absolute Advantage • Absolute Advantage - a person can produce a good or service with fewer resources than can another person • Comparative Advantage - a person can produce a good or service with lower opportunity cost than can another person

26. Comparative vs Absolute Advantage Assumptions: • 2 countries • 2 products • Straight-line PPCs to simplify model (constant opportunity cost)

27. Comparative vs Absolute Advantage PPC Country A PPC Country B

28. Comparative vs Absolute Advantage

29. Comparative vs Absolute Advantage PPC Country A PPC Country B

30. Comparative vs Absolute Advantage