(Please fill in the blanks for the bottom chart too :).) Gain from specializatio
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(Please fill in the blanks for the bottom chart too :).)
Gain from specialization and trade Consider two neighboring island countries called Felicidad and Bellissima. They each have 4 million labor hours available per month that they can use to produce rye, jeans, or a combination of both. The following table shows the quantity of rye or jeans that can be produced using one hour of labor. Initially, suppose Bellissima uses 1 million hours of labor per month to produce rye and 3 million hours per month to produce jeans, while Felicidad uses 3 million hours of labor per month to produce rye and 1 million hours per month to produce jeans. Consequently, Felicidad produces 24 million bushels of rye and 32 million pairs of jeans, and Bellissima produces 12 million bushels of rye and 72 million pairs of jeans. Assume there are no other countries willing to trade goods, so in the absence of trade between these two countries, each country consumes the quantity of rye and jeans it produces. Felicidad's opportunity cost of producing one bushel of rye is of jeans, and Bellissima's opportunity cost of producing one bushel of rye is of jeans. Therefore, has a comparative advantage in the production of rye and has a comparative advantage in the production of jeans. Suppose that each country specializes entirely in the production of the good in which it has a comparative advantage, producing only that good. In this case, the country that produces rye will produce bushels per month, and the country that produces jeans will produce pairs per month. In the table at the end of this problem, enter each country's production decision in the row labeled "Production." Suppose the country that produces rye trades 26 million bushels of rye to the other country in exchange for 78 million pairs of jeans. In the table at the end of this problem, select the quantity of each good that each country exports and imports in the boxes across the row labeled "Exports (-) or Imports (+)," and enter each country's final consumption of each good in the row labeled "Consumption." When the two countries did not specialize, the total production of rye was 36 million bushels per month and the total production of jeans was 104 million pairs per month. Because of specialization, the total production of rye has increased by bushels per month, and the total production of jeans has increased by pairs per month. Because the two countries produce more rye and more jeans under specialization, each country is able to gain from specialization and trade. Calculate the gains from specialization and trade-in this case, the amount by which each country has increased its consumption of each good relative to the quantities given in the first row of the table. In the table, enter this difference in the row labeled "Increase in consumption."Explanation / Answer
The opportunity cost is calculated based on the notion of how much quantity of one product has to be sacrificed in order to produce 1 extra unit of the other product.
Felicidad produces 8 bushels of rye by 1 labor hour and 32 pairs of jeans for 1 labor hour.
In order to produce 1 extra bushel of rye, Felicidad needs to sacrifice 32/8 = 4 pair of jeans. So, this is the opportunity cost of bushel of rye to pairs of jeans for Felicidad.
Similarly, Bellissima using 1 labor hour produces 12 bushels of rye or 24 pairs of jeans.
Therefore, the opportunity cost of bushel of rye to the pair of jeans for Bellissima would be, 24/12 = 2. That is, in order to produce 1 extra bushel of rye Bellissima needs to sacrifice 2 pairs of jeans.
Since, Bellissima needs to sacrifice less for producing extra bushels of rye for sacrificing same amount of jeans as compared to Felicidad, we can say that Bellissima has comparative advantage in the production of rye.
And inversely, Felicidad would have comparative advantage in the production of jeans because they have to sacrifice less bushels of rye (1/4) as compared to Bellissima (1/2).
Therefore, Felicidad will specialize in producing jeans and Bellissima will specialize in producing rye. So, both these countries will employ their entire allocation of labor hour into the production of their specialized products.
Felicidad, by employing 4 million labor hours into production of jeans, will produce 32 * 4 = 128 million pairs of jeans per month.
And Bellissima, by employing 4 million labor hours into the production of rye, will produce 12 * 4 = 48 million bushels of rye.
So, Bellissima will export 26 million bushels of rye to Felicidad and import 78 million pairs of jeans from it. And by the symmetry of trade, Felicidad will export 78 million pairs of jeans to Bellissima and in return would import 26 million bushels of rye from it.
Hence, after the trade, Felicidad will consume 26 million bushels of rye and (128 – 78) = 50 million pairs of jeans.
And on the other hand, Bellissima will consume (48 – 26) = 22 million bushels of rye and 78 million pairs of jeans.
After the specialization, total production of rye is 48 million bushels and that of jeans is 128 million pairs.
Before specialization, the total production of rye was 36 million bushels and that of jeans was 104 million pairs.
Therefore, because of specialization, the production of rye increased by (48 – 36) = 12 million bushels and the production of jeans increased by (128 – 104) = 24 million pairs.
Before specialization Felicidad was consuming 24 million bushels of rye and 32 million pairs of jeans. But after the trade took place between the countries, Felicidad started consuming 26 million bushels of rye and 50 million pairs of jeans.
Hence, the consumption by Felicidad increased by (26 – 24) = 2 million bushels of rye and (50 – 32) = 18 million pairs of jeans.
Again, before specialization Bellissima was consuming 12 million bushels of rye and 72 million pairs of jeans. But after specialization and the advancement of trade between the concerned countries, the consumption made by Bellissima become 22 million bushels of rye and 78 million pairs of jeans.
Thus, the consumption by Bellissima increased by (22 – 12) = 10 million bushels of rye and (78 – 72) = 6 million pairs of jeans.
So, the table could be written as follows—
Felicidad
Bellissima
Rye
(Millions of Bushels)
Jeans
(Millions of Pairs)
Rye
(Millions of Bushels)
Jeans
(Millions of Pairs)
No Specialization-No Trade (NS-NT)
Production and Consumption
24
32
12
72
Specialization-Trade (S-T)
Production
0
128
48
0
Exports (-) or Import (+)
+26
-78
-26
+78
Consumption
26
50
22
78
Gains from Specialization and Trade
Increase in Consumption
2
18
10
6
Felicidad
Bellissima
Rye
(Millions of Bushels)
Jeans
(Millions of Pairs)
Rye
(Millions of Bushels)
Jeans
(Millions of Pairs)
No Specialization-No Trade (NS-NT)
Production and Consumption
24
32
12
72
Specialization-Trade (S-T)
Production
0
128
48
0
Exports (-) or Import (+)
+26
-78
-26
+78
Consumption
26
50
22
78
Gains from Specialization and Trade
Increase in Consumption
2
18
10
6
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