The document discusses production possibility frontiers (PPF), comparative advantage, and absolute advantage in international trade. It provides examples to illustrate the concepts. Specifically: 1) A PPF shows the maximum amounts of two goods an economy can produce while fully utilizing its resources, and the marginal opportunity cost of a good increases as we move down the PPF. 2) Comparative advantage refers to the good a country can produce at a lower opportunity cost than another country. Specialization and trade allow gains for all countries based on comparative rather than absolute advantage. 3) Absolute advantage means a country can produce more of a good using the same resources. Comparative advantage depends on opportunity costs even if a country has no

1. Production Possibility Frontier

2. A Typical PPF Picture Guns Butter unattainable inefficient just attainable just attainable The marginal opportunity cost of guns in terms of butter is increasing as we move down the PPF! The PPF is typically bowed-out or linear. It is not bowed-in

3. Comparative Advantage The person with the lower marginal opportunity cost of an activity has the comparative advantage at that activity. This means that the person with the comparative advantage can produce the activity by giving up the smallest amount of the alternative activity.

4. The Idea of Comparative Advantage and Trade Specialization and free trade will benefit all trading parties, even when some are “absolutely” more efficient producers than others. Need to understand absolute vs. comparative advantage.

5. Absolute vs. Comparative Advantage Applied to Trade Absolute advantage : if your country uses fewer resources to produce a given unit of output than the other country. Comparative advantage : if your country can produce the output at a lower marginal cost in terms of other goods foregone than the other country. Every country (or person, or economy) has a comparative advantage at some activity. Absolute advantage is not important and may not always happen. Sometimes people or countries have the absolute advantage in nothing! Yet trade possibilities still exist. It’s all about comparative advantage.

6. PPFs and Comparative Advantage In this example, there are two goods being produced: Corn meal and RAM. Juanita has an absolute advantage at both: she can produce more of each than Julio. Juanita has a comparative advantage at producing RAM compared to Julio: she gives up 3.00 kg/day of corn meal to make an additional 1k of chips. Julio has a comparative advantage at producing corn meal compared to Juanita: he gives up 0.25 k chips to make an additional kg of corn meal.

7. Adding a Third Producer Sergio has no absolute advantage; however, he has a comparative advantage over both Juanita and Julio in the production of RAM. He sacrifices 2.00 kg of corn meal to make an additional 1k of chips.

8. Adding a Fourth Producer Question: What is Maria’s comparative advantage with respect to each of the other three producers?

9. Absolute Advantage and Comparative Advantage Portugal has the A.A. in both wine and cloth. England has the C.A. in cloth. Portugal has the C.A. in wine. Can you figure out the marginal opportunity cost for each output in each country?