Specialization & Trade (macro/micro)

Christa WashingtonAP EconomicsMay 16, 2013

7th period

SPECIALIZATION

• Occurs when productive agents (such as persons or nations) use their available resources to focus on producing one or a few products at which they are best suited

• Eco res. Needed to efficiently produce particular goods aren’t evenly distributed among producers• Some producers are better suited to produce certain

items than others

INTERNATIONAL TRADE

• Occurs when buyers and sellers in two nations exchange w/ one another

• A nation has a closed eco when it neither imports nor exports products• A nation has an open eco when it both imports/exports

products

COST RATIO

• Provide a method of comparing opportunity costs of producing certain items btwn producers– The lwr a nation’s cost ratio, the lwr its opportunity costs of

producing certain items• Cost ratios measure how much of one good must be surrendered

for every unit of another good gained• Cost ratios can be compared btwn different nations for the same

item OR btwn different items w/in the same nation

– Can be calculated using output or input data– Producers should specialize in making a product only when

their cost ratio of doing so is < that of their trading partners

OUTPUT PROBLEM APPROACH

• Based on the most of an item each producer could make if it specializes using a set amt of res. – Determine the max amt of each item each

producer can make if they use all their res & arrange the data in a table w/ the producers as rows and products as columns

EXAMPLEMax Sales Per Month

LP’s 8-Tracks

Funky Town 90 30

Boogieland 160 40

•Divide each producer’s output data:• Divide its OUTPUT data of the other item over the data for the one whose cost ratio you wish to find

COST RATIO FORMULA INTERPRETATION

Item A Maximum output of item BMaximum output of item A

How much of item B must be lost for every unit of item A gained by this producer

EXAMPLE (CONT’D)COST RATIO FORMULA INTERPRETATION

Item B Maximum output of item AMaximum output of item B

How much of item A must be lost for every unit of item B gained by this producer

•Reduce the fractions to the lwest common denominator•Compare cost ratios for each product btwn the two producers and select the nation that has the lwest cost ratio for each product

Max Sales Per Month

LP’s 8-Tracks

Funky Town 1/3 *3

Boogieland *1/4 4

INPUT PROBLEM APPROACH

• Based on the least res each producer needs to make a set amt of an item

• Stated in terms of res. per output unit– Determines the min amt of res each producer

needs to make one unit of an item if they specialize

EXAMPLEMINUTES PER SALE

LP’S 8-TRACKS

Funkytown 8 12

Boogieland 2 6

•Divide the INPUT data of the other item into the data for the item whose cost ratio you intend to find

Cost Ratio Formula Interpretation

Item A Resources needed for item AResources needed for item B

How much of item A will be gained for every unit of item B lost by this producer

Item B Resources needed for item BResources needed for item A

How much of item B will be gained for every unit of item A lost by this producer

EXAMPLE (CONT’D)

• Reduce the fractions to the lwest common denominator

• Compare cost ratios for each product btwn the two nations and select the nation that has the lwest cost ratio for each product

Cost Ratios

LPs 8-TRACKS

Funkytown 2/3 *3/2

Boogieland *1/3 3

RULES OF SPECIALIZATION

• Key for input/output problems• Producers should specialize in making a product only when

their cost ratio of doing so is < that of their trading partners• The no adv rule- states that nations should not specialize or

trade if neither trading partner possesses a cost adv in producing either product

• The absolute adv rule- states that 2 countries should specialize and trade when each partner has an output adv over the other

• The comparative adv rule- states that 2 countries should specialize and trade, even if 1 produces more output of both products, as long as each partner has a cost adv over the other

TRADE POSSIBILITIES CURVE

• Provide an alt way of solving output problems• TPC shows the amt of two items a country can

obtain by specializing in one and trading for the other– The PPC assumes a closed eco where trade-offfs

must be made in how a nation uses its own res– The TPC assumes an open eco where a nation is

free to specialize its own production and trade w/ other nations

TPC (CONT’D)• Comparing the TPCs of different ec reveals their

absolute/comparative adv• The slope of the TPC, which can be found by:

– (y1-yo) / (x1-xo)

• It provides the opportunity cost of producing one more unit of a particular good

50

30

25 50

Good Y

Good X

TPC 2

TPC 1

EXAMPLES:Opportunity cost of good X for TPC 1= (30-0) / (0-25)= 6/5Opportunity cost of good X for TPC 2= (50-0)/ (0-50)= 1Opportunity cost of good Y for TPC 1= (25-0)/ (0-30)= 5/6Opportunity cost of good Y for TPC 2= (50-0)/ (0-50)= 1

TPC (CONT’D)

• The nation w/ the lwr opportunity cost has a comparative adv in that particular item