3. Gains from trade Consider two neighboring island countries called Arcadia and

ID: 1258099 • Letter: 3

Question

3. Gains from trade Consider two neighboring island countries called Arcadia and Euphoria. They each have 4 million labor hours available per week that they can use to produce jeans, corn, or a combination of both. The following table shows the amount of jeans or corn that can be produced using 1 hour of labor. Country Jeans Corn (Pairs per hour of labor) (Bushels per hour of labor) Arcadia 8 16 Euphoria 5 20 Initially, suppose Arcadia uses 1 million hours of labor per week to produce jeans and 3 million hours per week to produce corn while Euphoria uses 3 million hours of labor per week to produce jeans and 1 million hours per week to produce corn. Consequently, Arcadia produces 8 million pairs of jeans and 48 million bushels of corn, and Euphoria produces 15 million pairs of jeans and 20 million bushels of corn. Assume there are no other countries willing to trade goods, so, in the absence of trade between these two countries, each country consumes the amount of jeans and corn it produces.

Arcadia's opportunity cost of producing 1 pair of jeans is____?___ of corn, and Euphoria's opportunity cost of producing 1 pair of jeans is____?__ of corn. Therefore,___?___ has a comparative advantage in the production of jeans, and ___?___ has a comparative advantage in the production of corn.

Suppose that each country completely specializes in the production of the good in which it has a comparative advantage, producing only that good. In this case, the country that produces jeans will produce___?__ million pairs per week, and the country that produces corn will produce___?___ million bushels per week.

In the following table, enter each country's production decision on the third row of the table (marked "Production").

Suppose the country that produces jeans trades 18 million pairs of jeans to the other country in exchange for 54 million bushels of corn.

In the following table, select the amount of each good that each country exports and imports in the boxes across the row marked "Trade Action," and enter each country's final consumption of each good on the line marked "Consumption.

" When the two countries did not specialize, the total production of jeans was 23 million pairs per week, and the total production of corn was 68 million bushels per week. Because of specialization, the total production of jeans has increased by__?____ million pairs per week, and the total production of corn has increased by___?___ million bushels per week.

Because the two countries produce more jeans and more corn under specialization, each country is able to gain from trade.

Calculate the gains from trade—that is, the amount by which each country has increased its consumption of each good relative to the first row of the table. In the following table, enter this difference in the boxes across the last row (marked "Increase in consumption").

Arcadia Euphoria

Jeans Corn Jeans Corn

(Millions of pairs) (Millions of bushels) (Millions of pairs) (Millions of bushels)

______________________________________________________________________________________________________

Without trade Production 8 48 15 20 Consumption 8 48 15 20 With trade Production Trade action Consumption Gains from trade Increase in consumption

Explanation / Answer

(a) Opportunity costs (OC)

Arcadia's OC of jeans = 48/8 = 6 corn

Euphoria's OC of jeans = 20/15 = 1.33 corn

So, Euphoria has comparative advantage in jeans and Arcadia has comparative advantage in corn.

(b) With specialization,

Euphoria will make (4 x 5) = 20 jeans and Arcadia will make (16 x 4) = 64 corn.

NOTE: After trade, production of jeans has decreased from 23 to 20 and not increased. Please provide the data in proper tabular format to make the data understandable.

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3. Gains from trade Consider two neighboring island countries called Arcadia and

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