Question

5. Terms of trade

Suppose that France and Germany both produce rye and stained glass. France's opportunity cost of producing a pane of stained glass is 5 bushels of rye while Germany's opportunity cost of producing a pane of stained glass is 10 bushels of rye.

By comparing the opportunity cost of producing stained glass in the two countries, you can tell that _____ (Germany, France)  has a comparative advantage in the production of stained glass and ____ (Germany, France) has a comparative advantage in the production of rye.

Suppose that France and Germany consider trading stained glass and rye with each other. France can gain from specialization and trade as long as it receives more than (1 bushel, 1/10 bushel, 1/5 bushel, 5 bushels, 10 bushels) of rye for each pane of stained glass it exports to Germany. Similarly, Germany can gain from trade as long as it receives more than (1 pane, 1/10 pane, 1/5 pane, 5 panes, 10 panes) of stained glass for each bushel of rye it exports to France.

Based on your answer to the last question, which of the following terms of trade (that is, price of stained glass in terms of rye) would allow both Germany and France to gain from trade? Check all that apply.

-1 bushel of rye per pane of stained glass

-11 bushels of rye per pane of stained glass

-6 bushels of rye per pane of stained glass

-7 bushels of rye per pane of stained glass

Answer 1

By comparing the opportunity cost of producing stained glass in the two countries, you can tell that France has a comparative advantage in the production of stained glass and Germany has a comparative advantage in the production of rye.

France can gain from specialization and trade as long as it receives more than: 5 bushels of rye for each pane of stained glass it exports to Germany.

Germany can gain from trade as long as it receives more than 1/10 pane of stained glass for each bushel of rye it exports to France.

The terms of trade must lie in between the opportunity costs of the two countries
C) 6 bushels of rye per pane of stained glass

D)7 bushels of rye per pane of stained glass