1. CH. 5 SPECIALIZATION AND COMPARATIVE ADVANTAGE
“DO WHAT YOU DO BEST AND TRADE FOR THE REST”

2. Comparative Advantage
Specialization and
Comparative Advantage
Basic Principle-specialization and
trade increase the productivity of a nation’s
resources; it pays for a country to specialize and
exchange even if that person or nation is more
productive than potential trading partners in all
economic activities.

3. Comparative Advantage
Specialization and
Comparative Advantage
Basic Principle
Comparative Costs-specialization
should take place if there are relative cost
differences in the production of different items
(if someone else can do something cheaper they
should and then trade).
A nation (or business or person) has a
comparative advantage if it can produce a product
at a lower opportunity cost than its partner

4. Comparative Advantage
Specialization and
Comparative Advantage
Basic Principle
Comparative Costs
Terms of Trade-the rate of exchange
of two products; determined by relative
opportunity costs

5. Comparative Advantage
Specialization and
Comparative Advantage
Basic Principle
Comparative Costs
Terms of Trade
Gains from Specialization
& Trade-can improve overall output
even when one country can do it all better; has
same effect as an increase in resources

6. I am going to prove that specialization
works. I am going to name a state and
you tell me what that state specializes
in:
Idaho
Potatoes
Florida
Oranges
Oil or cattle
Texas
On this slide, click so a state shows. Then ask the students what that state specializes in. When you are finished, ask the students why they don’t grow oranges in Alaska? I will be willing to bet you a buck, the one student will say that they CAN”T grow oranges in Alaska. You say, I will bet you a MILLION dollars I can grow oranges in Alaska. Can you grow oranges in Alaska? Yes. It just COSTS more. So why are oranges grown in Florida? Because it is cheaper.
Michigan
Automobiles
Nevada
Any illegal activity that
you can think of

7. Absolute Advantage Absolute and Comparative Advantage
Betty types 120 w.p.m. with 0 errors
Jim types 60 w.p.m. with 0 errors
Who should do the typing, Betty or Jim?
Betty.
Why?
Betty can type ABSOLUTELY faster than
Jim can. What type of advantage does
Betty have over Jim?
On the next eight slides, you will be giving the students an relatively easy question relating to absolute and comparative advantage. Just click each slide and have the students answer each question.
Absolute Advantage

8. I forgot to tell you--Betty is a lawyer.
A lawyer earns $60 an hour.
A secretary earns $6 an hour.
Betty is the lawyer. According to
the information given, that makes
Jim--
A secretary.
A 600-word document has to be
typed, how long does it take each
person to type this document?

9. How long does it take Betty to type
this document?
5 minutes
600 divided by 120 = 5
How long does it take Jim to type
this document?
10 minutes
600 divided by 60 = 10

10. How much would it cost each one
to type this 600-word document?
Betty $5
Betty receives $60 an hour or $1
per minute. It takes her 5 minutes
to type the document.
Jim $1
Jim receives $6 an hour or $1 for
every 10 minutes. It takes him
5 minutes to type the document.

11. We know that it takes Betty 5 minutes
to type the document, and it takes
Jim 10 minutes to type the document.
We also know that it costs Betty $5
to type the document, and it costs
Jim $1 to type the document.
According to this information, who
should do the typing?
Jim

12. Comparative Advantage
Why should Jim do the typing?
Because he has a--
Comparative Advantage
One entity can produce something
at a LOWER MARGINAL OPPORTUNITY
PRODUCTION COST than another
entity

13. Five minutes ago you told me that
Betty should do the typing; now you
are telling me that Jim should do
the typing. Why?
Because Jim has the comparative
advantage.
Which is more important in economics--
absolute or comparative advantage?
Comparative Advantage

14. Comparative Advantage
Take absolute advantage and KICK
it out the window. The more
important of the two is--
Comparative Advantage

15. Which country has the absolute advantage in the production of Maple
Man-hours required
U.S Canada
Maple Syrup
Copper Wire
The next four slides are another example of absolute and comparative advantage. When the students are done writing this in their notebooks, (click) ask them which country has the absolute advantage in the production of Maple Syrup? In Copper Wire? The U.S. has the absolute advantage in Maple Syrup because it can produce Maple Syrup ABSOLUTELY faster than Canada can (5-man hours compared to 8 in Canada). Which country has the absolute advantage in the production of copper wire? The U.S. has the absolute advantage in the production of copper wire because it can produce Copper Wire ABSOLUTELY faster than Canada can (6-man hours compared to 7 for Canada).
Does this mean that the U.S. should produce ALL the Maple Syrup and ALL the Copper Wire and the Canadians should just hang out? (click to next slide)
Which country has the absolute
advantage in the production of Maple
Syrup? In Copper Wire?

16. Kick it out the window! Man-hours required U.S. Canada Maple Syrup 5 8
Copper Wire
Ask the students what you asked them to do with ABSOLUTE ADVANTAGE.
Kick it out the window!
What did I tell you to do with Absolute
Advantage?

17. More importantly, which country has the Comparative Advantage in Maple
Man-hours required
U.S Canada
Maple Syrup
Copper Wire
More important is Comparative Advantage. Now which country should produce the Maple Syrup and which country should produce the Copper Wire? The correct answer is the U.S. should produce the Maple Syrup and Canada should produce the Copper Wire. (Some students will say the opposite because Maple Syrup is produced in Canada. Tell them this isn’t reality—this is economics). Click on next slide.
More importantly, which country has
the Comparative Advantage in Maple
Syrup? In Copper Wire? And Why?

18. Canada saves one-man hours
Man-hours required
U.S Canada
U.S. 2 1
Maple Syrup
Copper Wire 2 x
= 10
Canada 1 2 +
2 x +
= 14
Let’s say that the U.S. and Canada are STUPID! Each country decides to produce its OWN Maple Syrup and its OWN Copper Wire. How many man hours would it take the U.S. to produce one barrel of Maple Syrup + one mile of Copper Wire? How many man hours would it take Canada? 15.
But we learned from Adam Smith that both countries should SPECIALIZE and then TRADE.
Say that the U.S. should specialize in Maple Syrup, and instead of producing just one barrel of Maple Syrup, it produces two barrels. And say that Canada should specialize in the production of Copper Wire, and instead of producing one mile of Copper Wire, it produces two miles. How many man hours does each country save? One-man hour. Now what should the U.S. do with one of its barrels of Maple Syrup and what should Canada do with one of its miles of Copper Wire? Trade. Through specialization and trade, are both countries better off? Yes. Isn’t this what Adam Smith is telling us in The Wealth of Nations? 11 15
U.S. saves one-man hour
Canada saves one-man hours

19. Production Possibilities Curve/Frontier-

20. Ireland Puerto Rico Crystal Rum Crystal Rum A B C 1 million 0
700,000 30,000
,000 A B C
80,
40,000 40,000
0 80,000

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

22. Crystal
Crystal A
1 million B
700,000 A
80,000 B
40,000 C C
30,000
100,000
Rum
40,000
80,000
Rum
Ireland
Puerto Rico
Which country has the absolute advantage in the production
of Crystal? In the production of Rum?
What did I tell you to do with absolute advantages?
KICK IT OUT THE WINDOW!!!

23. Which country has the comparative advantage in Crystal? In Rum?
1 million B
700,000 A
80,000 B
40,000 C C
30,000
100,000
Rum
40,000
80,000
Rum
Ireland
Puerto Rico
Which country has the comparative advantage in Crystal?
In Rum?

24. There are___steps in figuring out which country has
Crystal
Crystal A
1 million B
700,000 A
80,000 B
40,000 C C
30,000
100,000
Rum
40,000
80,000
Rum
Ireland
Puerto Rico
There are___steps in figuring out which country has
the comparative advantage. 5

25. 1. Know the definition of comparative advantage
Crystal
Crystal A
1 mil. B
700,000 A
80,000 B
40,000 C C
100,000
Rum
30,000
40,000
80,000
Rum
Ireland
Puerto Rico
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 Rum = __Crystal
1 Crystal = __ Rum Crystal = __Rum
3. Go to the Xtremes (X and Y Games)

26. 1. Know the definition of comparative advantage
Crystal
Crystal A
1 mil. B
700,000 A
80,000 B
40,000 C C
100,000
Rum
30,000
40,000
80,000
Rum
Ireland
Puerto Rico
1. Know the definition of comparative advantage
Ireland Puerto Rico
1 Rum = __Crystal Rum = __Crystal
1 Crystal = ____ Rum Crystal = __Rum
2. Set up a table: 10 1
1/10 1
3. Go to the Xtremes (X and Y Games)
4. Fill in the blanks (starting with Puerto Rico first)
5. Circles and Arrows

27. We decided that Ireland should produce ALL the crystal and
1 million B
700,000 A
80,000 B
40,000 C C
100,000
Rum
30,000
40,000
80,000
Rum
Ireland
Puerto Rico
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

28. Ireland Puerto Rico IRELAND PUERTO RICO Crystal Crystal A 1 million B
700,000 A
80,000 B
40,000 C C
30,000
100,000
Rum
40,000
80,000
Rum
Ireland
Puerto Rico
Consumes Consumes
after specialization before Trade
Produces Trades and Trade (Point B) Gain from Trade
IRELAND
C 1 million ,000
R ,000
825,000
700,000
+125,000
35,000
30,000
+ 5,000
PUERTO RICO C
R ,000
+175,000
175,000
40,000
+135,000
-35,000
45,000
40,000
+5,000

29. Ireland Puerto Rico IRELAND PUERTO RICO Crystal Crystal A 1 million
175,000 D
Crystal
Crystal A
1 million D
825,000
700,000 A B
80,000
40,000 B
35,000 C
45,000 C
30,000
100,000
Rum
40,000
80,000
Rum
Ireland
Puerto Rico
Consumes Consumes
after specialization before Trade
Produces Trades and Trade (Point B) Gain from Trade
IRELAND
Plot
this
column
C 1 million ,000
R ,000
825,000
700,000
+125,000
35,000
30,000
+ 5,000
PUERTO RICO C
R ,000
+175,000
175,000
40,000
+135,000
-35,000
45,000
40,000
+5,000

30. 175,000 D
Crystal
Crystal A
1 million D
825,000
700,000 A B
80,000
40,000 B
35,000 C
45,000 C
30,000
100,000
Rum
40,000
80,000
Rum
Ireland
Puerto Rico
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.

31. Micro
Economics
1999
Question 2

32. line XZ in the figure above. Country B can produce 100 bushels of
Wheat
Country B
100
Country A Z Y
100
300
Cloth
2. Assume that Countries A and B have equal amounts of resources and identical technologies. Country A can produce 100 bushels of wheat or 100 yards of cloth or any combination, as shown by the
line XZ in the figure above. Country B can produce 100 bushels of
wheat or 300 yards of cloth or any combination, as shown by the
line XY in the figure above.

33. (a) Which country has an absolute advantage in the production of
Wheat
Country B
100
Country A Z Y
100
300
Cloth
(a) Which country has an absolute advantage in the production of
wheat and which has an absolute advantage in the production of
cloth? Explain how you determined your answer.
Neither country or both countries has the absolute advantage in the
production of wheat. Both countries can produce 100 bushels of
wheat. Country B has the absolute advantage in the production of
cloth. It can produce absolutely more cloth (300) than
Country A (100). Absolute advantage is which entity can produce
absolutely more than another entity.

34. (b) Which country has a comparative advantage in the production of
wheat and which country has the comparative advantage in the
production of cloth? Explain how you determined your answer.
Wheat
Country B
100
Country A Z Y
100
300
Cloth A B 1
1W = __ C
1C = __W 3
1W = __C
1C = __W 1
1/3
Country A has the comparative advantage in wheat and Country B
has the comparative advantage in cloth because they can both
produce those items at a lower marginal opportunity production cost.

35. Country B should import the wheat because Country A
C) With specialization and trade, which country will import wheat?
Explain why.
Wheat
Country B
100
Country A Z Y
100
300
Cloth A B 1
1W = __ C
1C = __W 3
1W = __C
1C = __W 1
1/3
Country B should import the wheat because Country A
has a comparative advantage in wheat and should
produce all the wheat.