Question

Tom and Jerry are two severely competitive rivals who like both milk and cheese. Their weekly production possibilities are shown in the following table.

Choices	Tom		Jerry
	Milk	Cheese	Milk	Cheese
Choice A	50oz	0	24oz	0
Choice B	0	10oz	0	8oz

1. Who has absolute advantage in Milk? Why?
   1. Using the same amount of resources, if a person can produce greater quantity of a good relative to other person then such person is said to have the absolute advantage in production of such good, in this case Tom has the absolute value. Tom produce 50 oz of milk while Jerry produced 24 oz of milk.
2. Who has absolute advantage in Cheese? Why?

Tom has absolute advantage in cheese as well. Using the same amount of resources, if a person can produce great quantity of a good relative to another person, they are said to have absolute advantage in production of such good. Tom produced 10 oz of cheese while Jerry produced 8 oz of cheese.

3. Who has comparative advantage in Milk? Why?

Tom has comparative advantage of milk. Using all its resources, Tom can produce either 50 oz of milk or 10 oz of cheese. So the opportunity cost of producing 1 oz of milk is (10/50) or 1/5 of cheese. Using all its resources, Jerry can produce either 24 oz of milk or 8 oz of cheese. So the opportunity cost of producing 1 oz of milk is (8/24) or 1/3 oz of cheese. It can be seen that Tom can produce milk at lower opportunity cost relative to Jerry. Production at lower opportunity cost indicates comparative advantage.

4. Who has comparative advantage in Cheese? Why

Using all its resources, Tom can produce either 50 oz of milk or 10 oz of cheese. So the opportunity cost of producing 1 oz of cheese is (50/10) or 5 oz of milk. Using all its resources, Jerry can produce either 24 oz of milk or 8 oz of cheese. So the opportunity cost of producing 1 oz of cheese is (24/8) 3 oz of milk. It can be seen that Jerry can produce cheese at lower opportunity cost relative to Tom. Production at lower opportunity cost indicates comparative advantage. So Jerry has comparative advantage in milk.

5. Draw Tom PPC [keep cheese on the x axis for uniformity].
6. Draw Jerry’s PPC [keep cheese on the x axis for uniformity].
7. Who should specialize in what? Why?
8. Fill up the table below:

	Tom		Jerry
	Milk	Cheese	Milk	Cheese
Assume that before trade consumption bundle is given as	20oz			5oz
Production when each decides to specialize

1. Plot “Before trade or specialization consumption bundle” on the Tom and Jerry’s PPF in question e and f respectively. Call it point X

10. Plot “Production when specialization takes place” on the Tom and Jerry’s PPF in question e and f respectively. Call it point Y

11. Calculate the mutually beneficial range of trading agreement.

50. Calculate the fair exchange rate between Milk and Cheese that will make both parties better off and fill up the table below

	Tom		Jerry
	Milk	Cheese	Milk	Cheese
Before trade consumption bundle is given as	20oz			5oz
Production when the rivals decide to specialize
After trade consumption bundle (Jerry wants to consume only 5oz cheeses as he did before specialization)				5oz

Answer 1

a. Tom has absolute advantage in production of milk because using all the resources Tom has, he produces quantity of milk more than the quantity produced by Jerry.

b. Tom has absolute advantage in cheese production as well. Using all the resources,Tom can produce more quantity of cheese than the quantity produced by Jerry.

c. To check this we first find the opportunity cost,

FOR TOM:

50 oz of milk = 10 oz of cheese.

1 oz of milk = 10/50 oz of cheese = 0.2

Similarly, for JERRY:

24 oz of milk = 8 oz of cheese

1 oz of milk = 8/24 oz of cheese = 0.33

Clearly, Tom has lower opportunity cost in the production of milk and thus the comparative advantage in milk production.

d. Using the same calculus, the opportunity cost of producing cheese by JErry is lower than Tom, thus he has comparative advantage in cheese production.