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Reasons for Trade: Absolute & Comparative Advantage
Absolute Advantage The ability to produce a particular good with fewer resources than another country. Comparative Advantage The ability to produce a particular good at a lower opportunity cost than another country. There are two ways to compare the abilities of two people, two firms or two economies producing a good. The person who can produce a good with a smaller quantity of inputs has an absolute advantage. The person with a smaller opportunity cost has a comparative advantage. This video by “pajholden” does a very job at explaining how nations can have a comparative advantage: 1
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Reasons for Trade: Examples of Absolute and Comparative Advantage
Hardware Software Utopia 200 1000 Happyland 100 1500 HL Students need to bef able to understand a numerical examples of comparative advantage. The site Turor2u provides another example. (See Will most definitely be on exam Table 1: Production of hardware and software products by Utopia and Happyland 2
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Happyland’s absolute advantage
Hardware Software Utopia 200 1000 Happyland 100 1500 Table 1: Production of hardware and software products by Utopia and Happyland 3
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Utopia’s absolute advantage
Hardware Software Utopia 200 1000 Happyland 100 1500 Table 1: Production of hardware and software products by Utopia and Happyland 4
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PPCs 5
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Utopia’s comparative advantage
Hardware Software Utopia 200 1000 Happyland 100 1500 1 unit Hardware = 5 units Software Utopia 1 unit of hardware = 5 units of software (200 /200 = 1000/200) Happlyland 1 unit of hardware = 15 units of software (100/100 = 1500/100) 1 unit Hardware = 15 units Software 6
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Happyland’s comparative advantage
Hardware Software Utopia 200 1000 Happyland 100 1500 1 unit Software = 0.2 units Hardware Utopia 1 unit of software = 1/5 or 0.2 units of hardware (1000/1000 = 200/1000) Happyland 1 unit of software = 1/15 or .06 units of hardware ( = 1500/1500 = 100/1500) 1 unit Software = 0.06 units Hardware 7
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Reasons for Trade Before Specialization
Utopia 1 unit of software = 1/5 or 0.2 units of software (1000/1000 = 200/1000) Happyland 1 unit of software = 1/15 or .06 units of software ( = 1500/1500 = 100/1500) Before Specialization A = 100 Hardware and 500 Software After Specialization B = 200 Hardware After Trading 100 Hardware for 900 Software C = 100 Hardware & 900 Software 8
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Reason for Tradce Before Specialization
Utopia 1 unit of software = 1/5 or 0.2 units of software (1000/1000 = 200/1000) Happyland 1 unit of software = 1/15 or .06 units of software ( = 1500/1500 = 100/1500) Before Specialization X = 50 Hardware and 750 Software After Specialization Y = 1500 software After Trading 750 Software for 83 Hardware Z = 83 Hardware & 750 Software 9
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