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Production, Trade, and Comparative Advantage

by: Kerrigan Unter

Production, Trade, and Comparative Advantage ECON 1011

Marketplace > George Washington University > Economcs > ECON 1011 > Production Trade and Comparative Advantage
Kerrigan Unter
GPA 3.0
Foster, I

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Covers the basics of comparative advantage including production, opportunity cost, absolute advantage, and economic growth by providing definitions for important terms and explanations of relevant ...
Foster, I
Class Notes
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This 3 page Class Notes was uploaded by Kerrigan Unter on Friday October 16, 2015. The Class Notes belongs to ECON 1011 at George Washington University taught by Foster, I in Summer 2015. Since its upload, it has received 12 views. For similar materials see INTRODUCTION TO MICROECONOMICS in Economcs at George Washington University.


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Date Created: 10/16/15
ECON 1011 Chapter 4 Production Trade and Comparative Advantage o The possibility of trade affects the production decisions when we assume that producers maximize pro t and individuals maximize utility I Production Possibilities 0 Labor productivity amount of output in kg lbs gals etc that can be produced per unit of labor input in hours days weeks etc 0 Unitlabor requirement amount of labor in hours days weeks etc needed to produce a unit of output in kg lbs gals etc 0 Production Possibility Frontier PPF set of all combinations of outputs that can be efficiently produced efficiency requires full employment of all resources and production at maximum productivity 0 Production Possibility Set PPS set of all combinations of outputs that can feasibly be produced output combinations that can be achieved with less than full employment of resources andor less than maximum productivity are feasible and thus are contained with the PPS II The Opportunity Cost of Production 0 Opportunity cost of production amount of one good that must be given up in production in order to produce one unit of another good slope of the PPF and represents the idea that when production efficiency is maintained to produce more of one good requires diverting resources from the production of another good III Absolute and Comparative Advantages 0 Absolute advantage is one method used to compare production technologies between two people or countries based on superior productivity in an industry or lower labor cost per unit of output 0 Comparative advantage is a second method used to compare production technologies between two people or countries based on lower opportunity cost in production of a product 0 Absolute Advantage An advantage that one person or one country has over another when a product can be produced cheaper ie lower labor cost and has greater efficiency in production higher productivity Comparative Advantage advantage that one person or one country has over another when a product can be produced at a lower opportunity cost IV Gains from Specialization and Trade Market meeting place for trade to take place The individual production points on each person s PPF represents their initial endowment If two indifference curves are not tangent to each other then there are trading possibilities in which they can trade to mutual advantage occurs when the endowment point is not optimum for both parties If two individuals producing for themselves with different production capabilities come together in the market there is an incentive to trade to their mutual advantage When the terms of trade of a good exceeds the opportunity cost of the same good the resulting pro t will induce an individual to specialize in the production of that good Because of the pursuit of pro t individuals are led as if by an invisible hand to specialize in their comparative advantage good and trade it in the market to mutual advantage V Comparative Advantage Suppose the tangency between the two indifference curves is the optimal consumption point with specialization and trade VI A Second Method of Defining Comparative Advantage a person has a comparative advantage in the good that he can produce at a lower opportunity cost Thus if an individual or country is absolutely better at producing all goods and services then its comparative advantage goods will be those in which its productivity advantage is largest If an individual or country is absolutely worse at producing all goods and services then its comparative advantage goods will be those in which its productivity disadvantage is smallest VII M isunderstandings about Comparative Advantage Economists would say that each country having an absolute advantage in a product is a sufficient condition for both countries to gain from trade but it is not a necessary condition It is not necessary because a country can gain from trade even when it is inferior in producing everything VIII Production Possibilities with more than two individuals 0 A number of important production relationships can be demonstrated by constructing an economywide PPF out of the PPFs of two or more individuals 0 Inefficiencies in production the economy is not achieving its fullest productive potential and therefore cannot obtain the greatest possible utility for its citizens o Principle of increasing costs As we move to the right along the efficient frontier the opportunity cost of orange production increases IX Sources of Economic Growth 0 There four basic causes of growth an increase in new resources a reemployment of unemployed resources an increase in productivity a reallocation of resources on the basis of comparative advantage 0 Resources inputs that are used to produce the nal goods and services that are consumed human labor animal labor land or space and capital equipment 0 when resources are added to the production process the household PPF shifts outward 0 Any reduction in a unitlabor requirement implies an increase in productivity and an improvement in technology


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