六 、
Investment
Tools: Economics: Global Economic Analysis
1.A: Gaining from International Trade
a: State the conditions under which a nation can gain from international trade.
Comparative advantage is the ability to produce a good at a lower opportunity cost than
others can produce it. Relative cost determines comparative advantage. When trading
partners specialize in producing products for which they have comparative advantage, costs
are minimized, output is greater, and both trading partners benefit.
Absolute advantage is a situation in which a nation, as the result of its previous experience
or natural endowments, can produce more output with the same resources than another
nation.
Note the difference: Absolute advantage refers to using the fewest resources to produce a
product. Comparative advantage refers to the lowest opportunity cost to produce a product.
According to the law of comparative advantage, trading partners are both better off if they
specialize in the production of goods for which they are the low-opportunity cost producer and
trade for those goods for which they are the high-opportunity cost producer.
How trade expands consumption possibilities: A country gains from international trade
when it exports those goods for which it has a comparative advantage and imports those
goods for which it does not. To see this more clearly, suppose that we can produce wheat at
$2 per bushel. If the production cost is $3 in all other nations, it is to our advantage to
produce more wheat and sell it on the world market.
Additional considerations on international trade:
1.
It allows firms to realize economies of scale.
2.
It benefits domestic consumers by allowing them to purchase from large scale
producers abroad.
3.
It promotes competition and allows consumers to purchase a wider variety of goods.
b: Discuss the effects of international trade on domestic supply and demand.
Assume the U.S. has a comparative advantage in the production of Product L. The following
graph indicates that when the world price is allowed to prevail in the domestic market, the
price and quantity supplied of Product L are both higher. As a result, domestic consumers are
losers because of the higher price they must pay, and domestic producers are winners
because of the higher price they receive and higher quantity they sell. However there is a
secondary effect. To buy Product L from the U.S., foreign consumers must generate U.S.
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