A Parable for the Modern Economy Two goods: meat and potatoes Two people: rancher and farmer If rancher produces only meat And farmer produces only potatoes Both gain from trade If both rancher and farmer produce both meat and potatoes They still gain from specialization and trade

The production possibilities frontier (a) 1 The production possibilities frontier (a) (a) Production Opportunities Minutes needed to Make 1 ounce of: Amount produced in 8 hours Meat Potatoes Farmer Rancher 60 min/oz 20 min/oz 15 min/oz 10 min/oz 8 oz 24 oz 32 oz 48 oz Panel (a) shows the production opportunities available to the farmer and the rancher.

The production possibilities frontier (b, c) 1 The production possibilities frontier (b, c) (b) The farmer’s production possibilities frontier (c) The rancher’s production possibilities frontier Meat (oz) 4 8 Meat (oz) 12 24 If there is no trade, the rancher chooses this production and consumption. If there is no trade, the farmer chooses this production and consumption. B A Potatoes (oz) 16 32 Potatoes (oz) 24 48 Panel (b) shows the combinations of meat and potatoes that the farmer can produce. Panel (c) shows the combinations of meat and potatoes that the rancher can produce. Both production possibilities frontiers are derived assuming that the farmer and rancher each work 8 hours per day. If there is no trade, each person’s production possibilities frontier is also his or her consumption possibilities frontier

The opportunity cost of meat and potatoes 1 The opportunity cost of meat and potatoes Opportunity cost of: 1 oz of Meat 1 oz of Potatoes Farmer Rancher 4 oz potatoes 2 oz potatoes ¼ oz meat ½ oz meat

Farmer’s Gains From Trade   Potatoes Meat No Trade With 32 28 29 1 24 26 2 20 23 3 16 4 12 17 5 8 14 6 11 7

Rancher’s Gains From Trade

Greg’s Final Solution (text) 2 Greg’s Final Solution (text) (a) The farmer’s production and consumption (b) The rancher’s production and consumption Meat (oz) 4 8 Meat (oz) 12 24 Farmer's production and consumption without trade Rancher’s production with trade Rancher’s production and consumption without trade Farmer's consumption with trade 18 12 13 B* A* 27 Rancher’s consumption with trade B 5 Farmer's production with trade 17 A Potatoes (oz) 16 32 Potatoes (oz) 24 48 Farmer and Rancher agree to trade 5 oz of Meat for 15 oz of Potatoes (3:1) Start at corners (specialization)