Principles of Economics Microeconomics
Principles of Economics Microeconomics ECON 2010
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This 2 page Class Notes was uploaded by Nola Williamson on Monday September 21, 2015. The Class Notes belongs to ECON 2010 at University of Virginia taught by Leonard Mirman in Fall. Since its upload, it has received 40 views. For similar materials see /class/209775/econ-2010-university-of-virginia in Economcs at University of Virginia.
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Date Created: 09/21/15
Problem Set 2 Economics 201 1 Consider the following situation Two countries the US and Canada each produce only two goods good A and good B The Production Possibilities Frontier for each of these countries are given by the following equations PPF ofUS 5A25B1 PPF of Canada 25A 5B 1 a Graph of the Production Possibilities Frontier for each country on the same graph with B on the vertical axis and A on the horizontal b Imagine that the governments for both Canada and the United States decided that they each needed exactly two units of good B If the two countries opted not to trade so that they need to produce everything for themselves how much of A and B could each country roduce c What if the United States were to produce all of the necessary amount of good B and then trade were to ensue That is if the US produced 4 units of good B and Canada used all of its resources on the production of good A how much of goods A and B would each country produce What would the total he Are the countries better or worse off from trading d De ne Comparative Advantage Does Canada have a comparative advantage in any good in this example 2 Now imagine that the production possibility frontiers for the US and Canada were slightly different than the above situation Consider the following PPFs PPF ofthe US 5A 25B1 PPF of Canada 25A 5B 2 a Graph of the Production Possibilities Frontier for each country on the same graph with B on the vertical axis and A on the horizontal b If the governments for both Canada and the United States still believe that they each needed exactly 2 units of good B and the two countries opted not to trade how much of A and B could each country produce 0 Again consider the trading situation If the United States produced all of the required B just as before what would the total output be for each country and so what would their combined output be In this situation are both countries better off trading 1 De ne Absolute Advantage Does the United States have a comparative advantage in any good in this example Page I of 2 3 Two individuals Tarzan and Jane live on a deserted island but are not initially aware of each other s presence Each needs two units of food F to survive but otherwise wishes only to consume luxury goods L such as clothing and shelter Throughout this problem assume each produces efficiently but bounded by the following production possibilities frontiers Tarzan F 2L 10 Jane 2F L 10 a Graph Tarzan s PPF Assuming there are no opportunities for trade how much L will he consume At this level what is his opportunity cost of L b Suppose instead that a trading vessel visits Tarzan s side of the island and after production he may trade at the following prices pF l pL 3 If consumption follows trading how much L will he produce How will he trade How much L will he consume c Repeat a and b for Jane d Now suppose that Tarzan and Jane find each other and can plan production together Determine Tarzan s and Jane s contributions to an efficient production plan and find the total quantity of L consumed e Construct the combined PPF What is the opportunity cost of L when L8 When L12 4 The Law of Comparative Advantage postulates that even if an agent is less efficient than or has an absolute disadvantage with respect to another agent in the production of both commodities there is still a basis for mutually bene cial trade between them as long as the relative prices of production are different for the two agents The relative price is the amount of one good an agent must give up to increase production of the other good 8 Give an example of an agent having an absolute advantage over another agent b Suppose the following is true c United States United Kingdom Wheat bushels per man hour I 6 l Cloth yards per man hour I 35 I 3 I 1 Which nation has an absolute advantage in the production of both goods ii If we allow for trade what should the nations do according to The Law of Comparative Advantage in Calculate the relative prices of producing the commodities for each nation In this example how does that differ from opportunity cost iv Assuming each country has 20 hours of labor available what is the output of each product for each country if 0 Each country uses 10 hours of labor to produce each good or o In the US 16 hours are devoted to wheat and 4 hours to cloth while in the UK all 20 hours are devoted to cloth Compare the total output of both countries for each good c De ne the concept of opportunity cost and explain the relationship between opportunity cost and relative prices d If we allow for trade which commodity would each nation specialize in Page 2 0f 2