Question

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3. You and your neighbor are the only people in a world that produces only cashews and mushrooms. You do not engage in trade with each other. On your own, you can each produce the following per day: You Neighbor Cashews Mushrooms Cashews Mushrooms Only gather cashews 12 pounds O pounds 4 pounds O pounds Only gather mushrooms O pounds 6 pounds O pounds 4 pounds Right now, you each split your time between gathering each product. You currently gather and consume eight pounds of cashews and two pounds of mushrooms, while your neighbor is gathering and consuming three pounds of cashews and one pound of mushrooms. Show numerically how specialization and then trade with each other can make both of you better off. Who specializes in the production of each product, and what is a trade you could then make with each other that would be beneficial to both of you?

Answer 1

Your opportunity cost of 1 cashew = Total mushrooms given up/Total cashews gathered = 6/12 = 0.5 mushroom
Your opportunity cost of 1 mushroom = Total cashews given up/Total mushrooms gathered = 12/6 = 2 cashews

Neighbor's opportunity cost of 1 cashew = Total mushrooms given up/Total cashews gathered = 4/4 = 1 mushroom
Neighbor's opportunity cost of 1 mushroom = Total cashews given up/Total mushrooms gathered = 4/4 = 1 cashew

So, You have comparative advantage in cashews as your opportunity cost is lower for it. And, neighbor has comparative advantage in mushrooms as his opportunity cost is lower for it.
Thus, You will specialize in gathering cashews. You will gather 12 pounds cashews and 0 mushrooms.
Neighbor will specialize in gathering mushrooms. Neighbor will gather 0 cashews and 4 pounds mushrooms.

If they exchange 1 pound of mushroom for 1.5 pounds of cashews, then,
Neighbor can give 2 pounds of mushrooms and it will get 1.5*2 = 3 pounds of cashews. So, neighbor will consume 4 - 2 = 2 pounds of mushrooms and 3 pounds of cashews after trade. Thus, it is beneficial for neighbor as he consumes an additional pound of mushrooms after trade.
You will consume 12 - 3 = 9 pounds of cashews, and 2 pounds of mushrooms after trade. Thus, it is beneficial for you as you consume an additional pound of cashews after trade.