Chapter 2

Report
Chapter 2
Comparative Advantage
Additional Question #1, 2
End-of-Chapter Exercise #9, 10
What is PPF?
PPF: The maximum obtainable amount of good each individual can produce
• Straight Line PPF
Food
•1person economy
•Comparative Advantage does not
take place
24
•Slope is constant, so does
opportunity cost
16
8
4
4
8
10
12
•Constant opportunity cost implies
that when increasing production of
one good, the same amount of the
other good must be sacrificed
Computer
• Bow-out shape PPF
Food
•More than 2 person economy
•Comparative Advantage takes place
•Slope is increasing as moving downward,
so does opportunity cost
- when increasing production of one good,
a larger amount of the other good must be
sacrificed
•Why is PPF bow-shaped?
Computer
- Increasing Opportunity Cost Principle / Low-Hanging Fruit Principle
- “In expanding the production of any good, first employ the resource with the
lowest opportunity cost, then turn to the resource with the highest opportunity
cost.”
• Bow-shaped PPF
•Consider an example:
•Assume there are 4 workers in the economy,
with worker #1 has the lowest opportunity
cost in producing computer, with worker #2
the highest
•Economy is initially producing the maximum
amount of food and zero production in
computer
•Who should be the first worker to produce
the additional unit of computer?
Food
•Worker #1, because he has the lowest opportunity
cost and implies that he is giving up less resources
to produce an additional computer. He has little
impact on the opportunity cost of computer
production.
Computer
•Worker #4 will be the last worker to move from
food industry to produce the additional unit of
computer, since he has the highest opportunity
cost.
This implies the Increasing opportunity cost / Low-fruit hanging principle.
Chapter 2, Additional Question (1)
The diagram shows Steven's Production Possibilities for one day.
Steven could move from the bold PPC to the dashed PPC by
Hours studying
per day
9
8
8
9 Hours at
work per day
A) finding a job that paid a
higher wage.
B) studying fewer hours but
more effectively per hour.
C) devoting fewer hours to
sleeping
D) spending more time on
leisure activities.
E) spending more time on the
activity for which he has a
comparative advantage.
Solution to Addition Question 1 (2)
-What is the factor that shift the PPF?
-What is the “resource” you use in studying
and working?
-X-axis/y-axis: measuring in “hours”, i.e. TIME
-24 hours a day: working, studying, sleeping,
leisure activities
Hours studying
per day
9
Bold PPF:
- The maximum working and studying hours
per day is 8 hours
- The remaining hours will spend on sleeping
and leisure activities
8
Dashed PPF:
-The maximum working and studying hours per
day is 9 hours
- The remaining hours will spend on sleeping
and leisure activities
8
9 Hours at
work per day
Solution to Addition Question 1 (2)
How will each of them affect ppf?
A) finding a job that paid a higher wage.
- won’t cause a parallel shift up of PPF
B) studying fewer hours but more effectively per hour.
- studying hours decrease, working hours increase
D) spending more time on leisure activities.
- less hours on both working and studying , PPF shifts inward
E) spending more time on the activity for which he has a comparative
advantage.
- not relevant, only 1 person in this economy
C) devoting fewer hours to sleeping
- more hours on studying and working, PPF shifts outward
ANS: C
Chapter 2, Additional Question (2)
According to the PPF, moving from a grade of 80 in economics to a
grade of 90 in economics:
A) is inefficient
B) comes at a lower
Physics
opportunity cost than
Grade
moving from a 90 to a 100
Grade
A
in economics.
90
B
C) is not feasible.
80
D) comes at a higher
C
70
opportunity cost than
moving from a 90 to a 100
D
60
in economics.
E) is an increase in efficiency.
50
40
40
50
60
70
80
90
E
100 Economics Grade
Economics Grade
Solution to Addition Question 2 (1)
Moving from C to D:
-where on the PPF are the attainable and efficient points?
-Points that lie along the PPF are said to be attainable
and efficient
-Points that lie within the PPF are said to be attainable
but inefficient
-Points that lie outside the PPF are said to be unattainable
Physics
Grade
Grade
A
90
B
80
C
70
D
60
50
40
40
50
60
70
80
90
Refer to the Question, moving
from C to D:
A) is inefficient ?
C) is not feasible?
E) is an increase in efficiency?
NO!
E
100 Economics Grade
Economics Grade
Solution to Addition Question 2 (2)
Refer to the Question:
B) comes at a lower opportunity cost than moving from a 90 to a 100 in
economics.
D) comes at a higher opportunity cost than moving from a 90 to a 100 in
economics.
Physics
Grade
Moving from C to D
Grade
-increase econ by 10 grades
-decrease phy by 10 grades (TRADEOFF)
-oppo. Cost = 1 econ grade: 1 phy grade
A
90
B
80
Moving from D to E
-increase econ by 10 grades
-decrease phy by 60 grades
-oppo. Cost = 1 econ grade: 6 phy
grade
C
70
D
60
50
40
40
50
60
70
80
90
E
100 Economics Grade
Economics Grade
ANS: B
Chapter 2, Problem 9
• Susan can pick 4 pounds of coffee in an hour
or gather 2 pounds of nuts. Tom can pick 2
pounds of coffee in an hour or gather 4
pounds of nuts. Each works 6 hours per day.
Solution to Problem 9 (1)
a) What is the maximum number of pounds of coffee the
two can pick in a day?
• There is a time constraint of 6 hours for a day
Coffee / hour
Nuts / hour
Susan
4 pounds
2 pounds
Tom
2 pounds
4 pounds
•Susan can pick 24 pounds of coffee a day (4 pounds per
hour x 6 hours per day)
•Tom can pick 12 pounds of coffee a day (2 pounds per
hour x 6 hours per day)
•Therefore they can gather a total of 36 pounds of
coffee a day
Solution to Problem 9 (2)
b) What is the maximum number of pounds of nuts the two
can pick in a day?
• There is a time constraint of 6 hours for a day
Coffee / hour
Nuts / hour
Susan
4 pounds
2 pounds
Tom
2 pounds
4 pounds
•Susan can pick 12 pounds of nuts a day (2 pounds per
hour x 6 hours per day)
•Tom can pick 24 pounds of nuts a day (4 pounds per
hour x 6 hours per day)
•Therefore they can gather a total of 36 pounds of nuts
a day
Solution to Problem 9 (3)
c) If Susan and Tom were picking the maximum
number of pounds of coffee when they
decided they would like to begin gathering 4
pounds of nuts per day, who would gather the
nuts, and how many pounds of coffee would
they still able to pick?
Solution to Problem 9 (4)
Coffee / hour
Nuts / hour
Susan
4 pounds
2 pounds
Tom
2 pounds
4 pounds
• Susan’s opportunity cost of gathering nuts
– 4 pounds of coffee forgone in an hour
– Susan’s opportunity cost of gathering nuts is 2 pounds of
coffee
• Tom’s opportunity cost of gathering nuts
– 2 pounds of coffee forgone in an hour
– Tom’s opportunity cost of gathering nuts is 0.5 pounds of
coffee
Solution to Problem 9 (5)
Coffee / hour
Nuts / hour
Susan
4 pounds
2 pounds
Tom
2 pounds
4 pounds
• Since Tom has a lower opportunity cost of gathering nuts than Susan,
Tom should gather nuts, Susan should gather coffee
• As they now want to have 4 pounds of nuts and as many pounds of
coffee as possible, so Tom will gather 4 pounds of nuts
• Tom:
- Since it would take Tom only 1 hour to pick 4 pounds of nuts and given the
6 hours working hours, he can still pick coffee in his 5 working hours
remaining
- In total, Tom will pick 4 pounds of nuts and 10 pounds of coffee
• Susan:
- She will use all of her working hours on picking coffee
- Susan will pick 24 pounds of coffee
• As a result, they will end up with 4 pounds of nuts and 34 pounds of
coffee a day
Solution to Problem 9 (6)
d)Now suppose Susan and Tom were gathering
the maximum number of pounds of nuts when
they decided that they would like to begin
picking 8 pounds coffee per day. Who would
pick the coffee, and how many pounds of
coffee would they still be able to pick
Solution to Problem 9 (7)
Coffee / hour
Nuts / hour
Susan
4 pounds
2 pounds
Tom
2 pounds
4 pounds
• Susan’s opportunity cost of picking coffee
– 2 pounds of nuts forgone in an hour
– Susan’s opportunity cost of picking coffee is 0.5 pounds of
nuts
• Tom’s opportunity cost of picking coffee
– 4 pounds of nuts forgone in an hour
– Tom’s opportunity cost of picking coffee is 2 pounds of nuts
Solution to Problem 9 (8)
Coffee / hour
Nuts / hour
Susan
4 pounds
2 pounds
Tom
2 pounds
4 pounds
• Since Susan has a lower opportunity cost of gathering coffee than Tom,
Susan should gather coffee, Tom should gather nuts
• As they now want to have 8 pounds of coffee and as many pounds of
nuts as possible, so Susan will gather 8 pounds of coffee
• Susan:
- Since it would take Susan only 2 hour to pick 8 pounds of coffee and given
the 6 hours working hours, she can still pick nuts in his 4 working hours
remaining
- In total, Susan will pick 8 pounds of coffee and 8 pounds of nuts
• Tom:
- he will use all of his working hours on picking nuts
- Tom will pick 24 pounds of nuts
• As a result, they will end up with 8 pounds of coffee and 32 pounds of
nuts a day
Solution to Problem 9 (9)
e) Would it be possible for Susan and Tom in total
to gather 26 pounds of nuts and pick 20 pounds
of coffee each day? If so, how much of each
good should each person pick?
•This question is an application of Low-hanging fruits
principle
-In expanding the production of any good, first employ
those resources with the lowest opportunity cost, and
only afterward turn to resources with higher
opportunity costs
Solution to Problem 9 (10)
Coffee / hour
Nuts / hour
Susan
4 pounds
2 pounds
Tom
2 pounds
4 pounds
• Is 26 pounds of nuts and pick 20 pounds of coffee possible?
• Susan should specialize in picking coffee and pick nuts in the remaining
time
-she will spend 5 hours on picking 20 pounds of coffee
- then spend the remaining 1 hour on picking nuts, (2 pounds of nuts)
• While Tom should specialize in picking nuts and pick coffee if he has
any remaining time,
-he will spend all 6 hours on picking 24 pounds of nuts
• Since Susan has picked 2 pounds of nuts in her remaining time, they
can get 26 pounds of nuts in total
• This combination is efficient and attainable
Chapter 2, Problem 10 (1)
Refer to the two-person economy described in
the preceding problem.
Coffee / hour
Nuts / hour
Susan
4 pounds
2 pounds
Tom
2 pounds
4 pounds
a) Is the point (30 pounds of coffee per day, 12 pounds
of nuts per day) an attainable point? Is it an efficient
point? What about the point (24 pounds of coffee
per day, 24 pounds of nuts per day)?
Solution to Problem 10 (2)
Coffee / hour
Nuts / hour
Susan
4 pounds
2 pounds
Tom
2 pounds
4 pounds
- Is 30 pounds of coffee, 12 pounds of nuts attainable?
- Susan has comparative advantage on coffee and Tom has comparative
advantage on nut.
• For Susan:
• If she spends 6hr on picking coffee, she will get 24 pounds of coffee
• Leaving 6 pounds of coffee for Tom to pick
• For Tom:
• He should spend 3 hours on picking 12 pounds of nuts
• Given the 6 hours of working, Tom is left with 3 hours on picking
coffee (6 pounds of coffee)
Solution to Problem 10 (3)
Coffee / hour
Nuts / hour
Susan
4 pounds
2 pounds
Tom
2 pounds
4 pounds
• Therefore, by having Susan spends 6 hrs on picking coffee
(24pounds of coffee), and Tom spending 3 hrs on picking
coffee (6pounds of coffee) and 3 hrs on picking nuts (12
pounds of nuts), the point 30 pounds of coffee and 12 pounds
of nuts is attainable and efficient.
Solution to Problem 10 (4)
Coffee / hour
Nuts / hour
Susan
4 pounds
2 pounds
Tom
2 pounds
4 pounds
a) Is 24 pounds of coffee and 24 pounds of nuts attainable?
• For Susan:
• Since she has comparative advantage on coffee, so she will
spend 6hrs on picking coffee and get 24 pounds of coffee
• For Tom:
• Since Tom has comparative advantage on nuts, so he will
spend 6hrs on picking nuts and get 24 pounds of nuts
• Therefore, by having each works full time at his/her activity of
comparative advantage, the point 24 pounds of coffee and 24
pounds of nuts is attainable and efficient.
Solution to Problem 10 (5)
b) On a graph with pounds of coffee per day on the
vertical axis and pounds of nuts per day on the
horizontal axis, show all the points you identified in
Problem 9, parts a-e, and Problem 10a. Connect these
points with straight lines. Is the result the PPC for the
economy consisting of Susan and Tom?
Solution to Problem 10 (6)
Coffee / hour
Nuts / hour
Susan
4 pounds
2 pounds
Tom
2 pounds
4 pounds
9a
9c
C
Production Possibilities Curve
•
for Susan & Tom
10a
30
9e
26
24
10aA
Let’s check pt. B, 8 pounds of coffee, 32 pounds of
nuts
-Susan picks 8 pounds of coffee in 2 hours, picks 8
pounds of nuts in 4 hours
-Tom picks 24 pounds of nuts in 6 hours
-Therefore, pt. B is attainable and efficient
•
Similar for Pt. C
•
We can conclude that this PPF consists of Tom and
Susan
9dB
8
0
If they specialize, they could achieve all the
different combinations on the PPF
To Check:
• Susan specializes on picking coffee, and Tom
specializes on picking nuts, (pt. A)
Coffee
(lb/day)
36
34
•
4
12
20
24
9b
32 36
Nuts
(lb/day)
Solution to Problem 10 (7)
c) Suppose that Susan and Tom could buy or sell coffee
and nuts in the world market at a price of $2 per
pound for coffee and $2 per pound for nuts. If each
specialized completely in the good for which he or
she had a comparative advantage, how much could
they earn by selling all their produce?
Solution to Problem 10 (8)
Coffee / hour
Nuts / hour
Susan
4 pounds
2 pounds
Tom
2 pounds
4 pounds
•
If each specialized completely, they can produce 24 pounds
on each good. (the point at which the kink occurs in the PPC
diagram).
•
If they sell in the world market at price $2 each, they will
receive a total of $96/day
Solution to Problem 10 (9)
d) At the prices just described, what is the maximum
amount of coffee Susan and Tom could buy in the
world market? The maximum amount of nuts?
Would it be possible for them to consume 40
pounds of coffee and 8 pounds of nuts each day?
•
With $96 per day to spend and at the world price of $2 each,
-the maximum amount of coffee they can buy is 48
pounds per day of coffee.
- the maximum amount of nuts they can buy is 48 pounds
per day of nuts.
Solution to Problem 10 (10)
d) Is it possible to consume 40 pounds of coffee and 8
pounds of nuts?
•
•
•
•
•
•
At the world price of $2 each,
40 pounds of Coffee cost $80
8 pounds of Nuts cost $16
Total cost of nuts and coffee is $96
Given the total amount of money they earn by selling all
their produce, they have $96 to spend (from 10c)
Therefore, they would have just enough money to consume
this combination of goods.
Solution to Problem 10 (11)
e) In light of their ability to buy and sell in world market at
the stated prices, show on the same graph all
combinations of the two goods it would be possible for
them to consume.
Solution to Problem 10 (12)
Coffee
(lb/day
48
E
“Consumption
Possibilities Curve”
G
40
36
-they are also possible to consume,
40 pounds of coffee, 8 pounds of nuts,
(pt. G on graph)
-they are able to consume more if trading
with the world market
24
F
0
- With the ability to buy or sell each good at
$2 per pound in world market,
- the maximum amount they can consume,
48 pounds of coffee, 48 pounds of nuts,
(pt. E and pt. F on graph)
8
24
36
48
Nuts
(lb/day
-Consumption Possibilities Curve the maximum amount of good
participants can consume in
international trade
End of Chapter 2

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