international economics - absolute advantage powerpoint
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INTERNATIONAL ECONOMICS: Comparative Advantage and Factor Proportions
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Transcript of international economics - absolute advantage powerpoint
INTERNATIONAL ECONOMICS:
Comparative Advantage and Factor Proportions
Absolute Advantage
The Theory:
Ability of a party to produce more good than the competitor using the same amount of resources determined by labor productivity.
The theory asserts that a nation benefits from producing more output than others since it is in the possession of a particular resource or commodity. This particular resource can be- a certain method or knowledge,that increases the production efficiency and reduces the relative need to resources
Labor productivity- the number of units of output that a worker can produce in one hour
example
Country Sacks of rice produced per day
Number of farmers
Philippines 20 4
Vietnam 16 4
*Assuming that both farmers are paid equally and uses the same method of irrigation
Philippines has an absolute advantage in producing rice per day
Comparative Advantage
the ability of an individual, firm, or a country to produce a particular good or service at a lower opportunity cost than another product or service
It is the ability to produce a product with the highest relative efficiency given all the other products that could be produced
With no international trade: United States Rest of the World
Price of cloth 2.0 bushels/yard 0.67 bushel/yardPrice of wheat 0.5 yard/bushel 1.5 yards/bushel
Constant-Cost & Production-Possibility Curve
50
30
20
C Trade
Line
ppc
15 2
0
25
50
S1
S0
(billions of yards per year)
(billions of bushels per year)
Wh
eat
Cloth
United States
67
20
16
Trade Line
Cppc
76 80 100
S0
(billions of bushels per year)
Wh
eat
Cloth
Rest of the World
100
(billions of yards per year)
Production Possibilities under increasing costs
A. U.S. PRODUCTION POSSIBILITY CURVE
B. RISING OPPORTUNITY COSTS FOR PRODUCING CLOTH IN THE U.S.
8050
20
40
60
S1: Slope = 1 bushel/yard
S0: Slope = 2bushels/yard
S2: Slope = 3bushels/yard
(billions of yards per year) Clot
h
(billions of bushels per year)
Wh
ea
t
15 20 25 30 35 40 45 50 55 60 650
0.5
1
1.5
2
2.5
3
3.5
Supply curve for cloth in the U.S.
(= opportunity-cost curve or marginal-cost curve)
(billions of yards per year)
Indifference curves
60
40
20
E
D
40
20
60
80
A
BWh
eat
Yards of cloth consumed
80
100
C
100
wors
e
Better
Production & Consumption Together
Indifference curves and Production Possibilities Without Trade
20
40
S1
S0
Price ratio= 2 bushels/yard
(billions of yards per year)
(billions of bushels per year)
80
50
Wh
ea
t
Cloth
Free Trade & its effectsINDIFFERENCE CURVES PRODUCTION-POSSIBILITY
CURVE
8050
20
40
60
United States
Cloth
Wh
ea
t
40
price= 1bushel/yard
S1 S
0 C1
2 bushels/yard
I1 I2
T
Rest of the World
15
30
55
60
80
100
C1
S0
S1
price= .67bushel/yard
I2
I1
Free Trade & its effectsDEMAND CURVE SUPPLY CURVE
1
2
20 40 60
A
B
SUS
DUS
CLOTH
PRICE OF CLOTH
Cloth imports
60 80 100
1
CLOTH
0.67
Sf
Df
Cloth exports
PRICE OF CLOTH (bushels per yard)
Gains from Trade
If a country receives a higher price for its exports relative to the price that it pays for its imports.
Terms of trade-The price the country receives from foreign buyers for
its export products, relative to the price that the country pays foreign sellers for its import products.
- How much is imported per export
Trade affects production & consumption
1. within each country output expands for the product in which the country has a comparative advantage
• more wheat in the US and more cloth in the rest of the world
2. the shift from no trade to free trade results in more efficient world production as each country expands output of the product in which it is initially the low-cost producer
What determines Trade Pattern
- Production Condition differ.
- Consumption Condition differ.
- Some combination of these two differences.
Product prices differ with “no trade” because of the following:
Heckscher-Ohlin (H-O) Theory
A capital-abundant country will export the capital-intensive good, while the labor-abundant country will export the labor-intensive good.
The critical assumption on the H-O model is that the two countries are identical, except for the difference in resource endowments. This also implies that the aggregate preferences are the same. The relative abundant in capital will cause the capital-abundant to produce the capital-intensive good cheaper than the labor-abundance country and vice versa.
