Trade and Specialization

  • Adam Smith in Wealth of Nations, written in 1776, writes about the benefits of specialization.

    • One man draws out the wire, another straights it, a third cuts it, a fourth points it, a fifth grinds it at the top for receiving the head; to make the head requires two or three distinct operations; to put it on, is a particular business, to whiten the pins is another; it is even a trade by itself to put them into paper; and the important business of making a pin is, in this mannar, divided into about eighteen distinct operations… Those ten persons, therefore, could make among them upwards of 48,000 pins in a day. But if they had all wrought separtely and independently… they certainly could not each of them have made twenty, perhaps not one pin in a day.

  • Modern example: I, Pencil: The Movie

    Video web content titled: I, Pencil: The Movie

Market Economy vs. Command Economy

  • In a market economy, production and consumption decisions are the result of decentralized decisions by individuals and firms.

  • In a command economy, industry is publicly owned and the government makes decisions on the allocation of goods and services.

  • Most economies are mixed. Specialization and trade are what makes countries prosper.

Absolute Advantage

  • A coutry or individual is simply better than another country or individual in producing a particular product.

    China can make either 50 toys or 100 t-shirts. Mexico can make either 25 toys or 60 t-shirts. Who has absolute advantage in CHINA gecac«se 50 25 Who has in trshirt production? CHA ga«use 100 'D

Comparative Advantage

  • A country or individual has a LOWER opportunity cost than another country or individual in producing a particular product.

    Economists use the term comparative advantage when describing the opportu- nity costs faced by two producers. The producer who gives up less of other goods to produce Good X has the smaller opportunity cost of producing Good X and is said to have a comparative advantage in producing it. In our example, Frank has a lower opportunity cost of producing potatoes than Rose: An ounce of potatoes costs Frank only 1/4 ounce of meat, but it costs Rose 1/2 ounce of meat. Conversely, Rose has a lower opportunity cost of producing meat than Frank: An ounce of meat costs Rose 2 ounces of potatoes, but it costs Frank 4 ounces of potatoes. Thus, Frank has a comparative advantage in growing potatoes, and Rose has a comparative advantage in producing meat. Although it is possible for one person to have an absolute advantage in both goods (as Rose does in our example), it is impossible for one person to have a comparative advantage in both goods. Because the opportunity cost of one good is the inverse of the opportunity cost of the other, if a person's opportunity cost of good is relatively high, the opportunity cost of the other good must be rela- tively low. Comparative advantage reflects the relative opportunity cost. Unless two people have the same opportunity cost, one person will have a comparative advantage in one good, and the other person will have a comparative advantage in the other good.

  • Examples 1

    Remember, China can make either 50 toys or 10() t- shirts. Mexico can make either 25 toys or 60 t-shirts. Who has comparative advantage in toy production? Who has comparative advantage in t-shirt production? Explain why. Helico h..s@, CHINA 50 Tqs = 100 T-sKr{s IOD 100 T-sbtks V T-shi«i-s Meiico as Togs co -t -shcÜ CHINA COM' adv. Lower cos

  • Examples 2

    Machine generated alternative text: Matt c an make 10 baseballs or loves 111 one hour wh ile Andre can make ase a or 3 gloves 111 an hour. Determine W O as comparative advantage in maki ng baseballs and in making gloves. 0 I 亿 b 謳 9 彗 | 31•ve = b 帖 OC 忒 ocoG base b411 Miff 卜 巧 0

  • Examples 3

    In India, car can be produced by 8 worken in one day and a computer b 3 worke one ay. In the US, can be produced by worker in one day, and a coypyter one day. Which of the following statements is FALSE? car S e— Neither country has absolute advantage in raking computers. v/ — The US has absolute advantage in making cars. &/The US has comparative advantage in making cars. The US has comparative advantage in making computers. Indio has comparative advantage in making cars.

Comparative Advantage & PPF Graph

  • Flatter slope will have comparative advantage in the x-axis good.

  • Steeper slope will have comparative advantage in the y-axis good.

    Below is the Production Possibilities Frontier for Country A and Country B. Who has comparative in steak and in chicken? CA in Country B ho..e CA good 2 Country A Quantity of Steak

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