6/13/11

A four step solution to solving the comparative advantage and gains from trade problem.


You can solve these problems easily as long as you follow these 4 steps:


Today I will introduce the problem and give you some background information on PPFs (production possibility frontiers), the later steps will be covered in future posts.

By looking at the table with the PPF information given to you, you should be able
to determine the opportunity cost of production for each country’s (or individual’s) good.

Below is an example table, of production in 1 day:

Mexico
U.S.
Papayas
Apples
Papayas
Apples
0
12
0
63
8
9
7
42
16
6
14
21
24
0
21
0


You might also see it in the following form:

Mexico
Hours to produce 1
Quantity per day
Papayas
1
24
Apples
2
12

Don’t let this confuse you, it is telling you the same information, they are just in different forms.  Do you see how the information matches up from the second table, into the first table?  The first table is showing us the country’s PPF while the second table is showing us what could be produced given time.  If you are only given information in the format of the second table, then figure out how much each country could produce if they specialized in each good.  This is the only information you will need to calculate the opportunity cost.

Also: Who has the absolute advantage in each good?  That means which country can produce the MOST of each good within a certain time frame, it would be the US in apples (63 vs 12) and Mexico in papayas (24 vs 21).

Here is what the PPF looks like for this two country case:



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