Comparative Advantage Assuming constant opportunity costs, suppose Mickey can pr

Question

Comparative Advantage Assuming constant opportunity costs, suppose Mickey can produce either 800 cheese and crackers, or 0 cheese and 200 crackers; and Minnie can produce either 150 cheese and 0 crackers, or 0 cheese and 450 crackens State who has a comparative advantage in cheese. Explain why. (5 points b Without trade Mickey produces 400 cheese and 100 crackers, and Minnie produces 100 cheese and 150 crackers. If the terms of trade are 1 cheese1 cracker, what are the gains from specialization and trade for each good to each trader if Mickey trades 200 units of the good he has a comparative advantage in? (5 points) 2 Supply and Demand Given Q-700-2P and -2P 100, what is the market equilibrium price (P) and quantity (Q) (5 points) Suppose the market changes to: Q- 700-2P and Q-2P 40. Caleulate the new market equilibrium price (P) and quantity (Q). (5 points) 3. Elasticity a. Use your answers in the supply and demand question above, to calculate the mid- point formula for the price elasticity of demand (two decimal placs) (4 points) Using your answer in part a, is the price elasticity of demand elastic, inelastic or unit elastic? (3 points) State how you were able to determine if the price elasticity of demand is elastic inelastic or unit elastic. (3 points)

Explanation / Answer

1. A country has a comparative advantage in producing that good if the opportunity cost of producing that good is lower in that country as compared to another country.

Mickey:

800 cheese = 200 crackers

1 unit of cheese = 200/800 = 0.25 crackers

Opportunity cost of 1 unit of cheese is 0.25 crackers.

Minnie:

150 cheese = 450 crackers

1 unit of cheese = 450/150 = 3 crackers

Opportunity cost of 1 unit of cheese is 3 crackers.

Therefore, Mickey has comparative advantage in the production of cheese.

b) Mickey only produces cheese after trade. So, total production of cheese = 800

Minnie only produces crackers after trade. So, total production of crackers = 450

Trade: 200 units of cheese for 200 units of crackers

Mickey: Cheese = 800 - 200 = 600

Crackers = 0 + 200 = 200

Minnie: Cheese 0 + 200 = 200

Crackers = 450 - 200 = 250

Gains to Mickey from specialization and trade: Cheese = 600 - 400 = 200 and

Crackers = 200 - 100 = 100

Minnie: Cheese = 200 - 100 = 100

Crackers = 250 - 150 = 100

2. a) Market equilibrium: Qd = Qs

700 - 2P = 2P - 100

700 + 100 = 2P + 2P

800 = 4P

P = 800/4 = 200

P* = 200

Q* = 700 - 2(200) = 700 - 400

Q* = 300

b) New equilibrium: Qd = Qs

700 - 2P = 2P - 40

700 + 40 = 4P

4P = 740

P** = 185

Q** = 700 - 2(185) = 700 - 370 = 330

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