Practice with Comparative Advantage and Gains from Trade The principle of comparative advantage states that if nations (or individuals) specialize in the production of goods and services that they can produce at lower opportunity cost relative to other nations, then there can be mutual gains from trade

Practice with Comparative Advantage and Gains from Trade The principle of comparative advantage states that if nations (or individuals) specialize in the production of goods and services that they can produce at lower opportunity cost relative to other nations, then there can be mutual gains from trade. As a result, there will be more efficient production and consumption. In terms of the PPF model is that these gains from trade allow nations to consume product mixes outside of their own PPF. Note: Trade does not cause a shift in the PPF rather it allows a nation to consume a mix of the two goods that is beyond what they could produce alone Example to see gains from trade Assume that Heather and Leah can spend the day either washing cars or mowing lawns. The table below shows how much of each task they could accomplish in one day if they spent the whole day doing just that task. For example, Heather could wash 20 cars or mow 5 lawns in one day. Heather Leah Cars washed Lawn mowed 15 20 5 Question: Use the principle of comparative advantage to illustrate how specialization can make them more productive than they can be alone. Steps: 1. Calculate the opportunity cost of each activity for each person. Heather The opportunity cost of mowing 5 lawns is washing 20 cars. = the opportunity cost of mowing 1 lawn is washing 4 cars. the opportunity cost of washing i car is mowing # of a lawn. Leah The opportunity cost of mowing 3 lawns is washing 15 cars. = the opportunity cost of mowing 1 lawn is washing 5 cars, the opportunity cost of washing 1 car is mowing 1/5 of a lawn. 2. Use the opportunity costs to see who has comparative advantage (lower opp cost) in each good, and therefore who should specialize in each good. Heather has a lower opportunity cost for wing lawns so she has the comparative advantage in lawns (she gives up only 4 cars while Leah gives up 5 cars), Leah has a lower opportunity cost for washing cars so she has the comparative advantage in cars (she gives up only 1/5 of a lawn while Heather gives up of a lawn).

Use the information above to answer the following questions:

1. Who has the Absolute Advantage in washing cars?

2. Who has the Absolute Advantage in mowing lawns?

3. Who has the Comparative Advantage in washing cars?

4. Who has the Comparative Advantage in mowing lawns?

5. Leah will.......

6. Heather will........