Chapter 6
CHOICES AND TRADE,
INTERNATIONAL
ECONOMICS
6.1 THE ORIGINS OF TRADE
Assumption
2 goods,meat &potatoes
2 people,cattle rancher & potato farmer
Situation
rancher can produce only meat and farmer can produce
only potatoes.
rancher and farmer are each capable of producing the
other good,but only at
great cost,
6.2 PRODUCTION POSSIBILITIES
1,The Production Opportunities of
the Farmer and the Rancher
Minutes Needed to Make
1 Ounce of
Amount of Meat or
Potatoes Produced in 8
hours
Meat Potatoes Meat Potatoes
Farmer 60 min/oz 15 min/oz 8 oz 32 oz
Rancher 20 min/oz 10 min/oz 24 oz 48 oz
2.The Production Possibilities Frontier
Meat
(ounce)
Potatoes
(ounce)
8
4
0
16 32
A
Potatoes
(ounce)
24
12
0
24 48
Meat
(ounce)
(a) Farmer’s PPF (b) Rancher’s PPF
B
If there is no trade,
the farmer chooses
this production and
consumption.
If there is no trade,
the rancher chooses
this production and
consumption.
6.3 SPECIALIZATION AND TRADE
Farmer:
8h for 32 oz potatoes
15 oz potatoes exchange of 5 oz meat
Now,17 oz potatoes & 5 oz meat
Before,16 oz potatoes & 4 oz meat
Rancher
6h for 18 oz meat & 2h for 12 oz potatoes
5 oz meat exchange of 15 oz potatoes
Now,13 oz meat & 27 oz potatoes
Before,12 oz meat & 24 oz potatoes
1,How Trade Expands the Set of
Consumption Opportunities
4
Meat
Potatoes
5
16 17
A
A*
Farmer’s
consumption
with trade
Farmer’s
production
and
consumption
without trade
32
Farmer’s
production
with trade
Meat
Potatoes
12
24 27 48
Rancher’s
production
with trade24
13
18
12
B
B*
Rancher’s
consumption
with trade Rancher’s
production
and
consumption
without trade
(a) Farmer’s Production
and Consumption
(b) Rancher’s Production
and Consumption
8
2.The Gains from Trade,A Summary
Farmer Rancher
Meat Potatoes Meat Potatoes
Without Trade:
Production & Consumption 4 16 12 24
With Trade:
Production
Trade
Consumption
0
Gets 5
5
32
Gives 15
17
18
Gives 5
13
12
Gets 15
27
Gains from Trade:
Increase in Consumption +1 +1 +1 +3
6.4 COMPARATIVE ADVANTAGE
absolute advantage
the comparison among producers of a good according to their
productivity
Opportunity Cost
whatever must be given up to obtain some item
Comparative Advantage
the comparison among producers of a good according to their
opportunity cost
Farmer,1 oz meat = 3 oz potatoes (OC=4 oz)
Rancher,1 oz potato = 1/3 oz meat (OC=1/2 oz)
Trade can benefit everyone in society because it allows
people to specialize in activities in which they have a
comparative advantage.
The Opportunity Cost of Meat and Potatoes
Opportunity Cost of:
1 Ounce of Meat 1 Ounce of Potatoes
Farmer 4 oz potatoes? oz meat
Rancher 2 oz potatoes? oz meat
David Ricardo
1817
Principles of
Political Economics
and Taxation
6.5 GOVERNMENT AND TRADE
POLICY
Open Economy
an economy that interacts freely with other
economies around the world
Closed Economy
an economy that does not interact with other
economies around the world
Partially Open Economy
Natural Advantage