Production Possibilities Curve/Frontier - Law of increasing costs Capital goods Consumer goods.

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Presentation transcript:

Production Possibilities Curve/Frontier - Law of increasing costs Capital goods Consumer goods

Rum Crystal 1 million 100, ,000 30,000 A B 0 C 80,000 40, ,000 Ireland Puerto Rico A B C Crystal Rum ABCABC 1 million 0 700,00035, ,000 ABCABC 80, , ,000

Rum Crystal 1 million 100, ,000 30,000 A B 0 C 80,000 40, ,000 Ireland Puerto Rico A B C Which country has the absolute advantage in the production of Crystal? In the production of Rum?

Rum Crystal 1 million 100, ,000 30,000 A B 0 C 80,000 40, ,000 Ireland Puerto Rico A B C Which country has the comparative advantage in Crystal? In Rum?

Rum Crystal 1 million 100, ,000 30,000 A B 0 C 80,000 40, ,000 Ireland Puerto Rico A B C There are___steps in figuring out which country has the comparative advantage. 5

Rum Crystal 1 mil. 100, ,000 30,000 A B 0 C 80,000 40, ,000 IrelandPuerto Rico A B C 1. Know the definition of comparative advantage One entity can produce something at a LOWER MARGINAL OPPORTUNITY COST than another entity. 2. Set up a table: Ireland Puerto Rico 1 Rum = __Crystal 1 Crystal = __ Rum 1 Crystal = __Rum 3. Go to the Xtremes (X and Y Games)

Rum Crystal 1 mil. 100, ,000 30,000 A B 0 C 80,000 40, ,000 IrelandPuerto Rico A B C 1. Know the definition of comparative advantage 2. Set up a table: Ireland Puerto Rico 1 Rum = __Crystal 1 Crystal = ____ Rum 1 Crystal = __Rum 3. Go to the Xtremes (X and Y Games) 4. Fill in the blanks (starting with Puerto Rico first) /10 5. Circles and Arrows

Rum Crystal 1 million 100, ,000 30,000 A B 0 C 80,000 40, ,000 IrelandPuerto Rico A B C We decided that Ireland should produce ALL the crystal and Puerto Rico should produce ALL the rum. How much crystal should Ireland produce? 1 million cases How much rum should Puerto Rico produce?80,000 barrels Should Ireland just hold onto its cases of crystal and Puerto Rico just hold onto its barrels of rum? NO! What should each country do after specialization?Trade

Terms of trade Cost Ratio Ireland: 1 R = 10 C Puerto Rico: 1 R = 1 C Must get more than this ratio, or why trade? Actual terms depend on supply and demand (more later)

Rum Crystal 1 million 100, ,000 30,000 A B 0 C 80,000 40, ,000 Ireland Puerto Rico A B C Consumes Consumes after specialization before Trade Produces Trades and Trade (Point B) Gain from Trade C 1 million -175,000 R 0 +35, ,000 35, ,000 30, , ,000 IRELAND PUERTO RICO C 0 R 80, , ,000175,000 45,000 40, ,000 +5,000

Rum Crystal 1 million 100, ,000 30,000 A B 0 C 80,000 40, ,000 Ireland Puerto Rico A B C Consumes Consumes after specialization before Trade Produces Trades and Trade (Point B) Gain from Trade C 1 million -175,000 R 0 +35, ,000 35, ,000 30, , ,000 IRELAND PUERTO RICO C 0 R 80, , ,000175,000 45,000 40, ,000 +5,000 Plot this column 35, ,000 D 45, ,000 D

Rum Crystal 1 million 100, ,000 30,000 A B 0 C 80,000 40, ,000 Ireland Puerto Rico A B C 35, ,000 D 45, ,000 D Which country is obviously better off through this specialization and trade--Ireland or Puerto Rico? Both Countries are!!! Both countries are now outside their own production capabilities. Through specialization and trade all parties are better off.