Question

Consider two neighboring island countries called Contente and Felicidad. They each have 4 million labor hours available per month that they can use to produce corm, jeans, or a combination of both. The following table shows the amount of corn or jeans that can be produced using 1 hour of labor Corn Jeans Country (Bushels per hour of labor) (Pairs per hour of labor) Contente 8 16 Felicidad 5 20 Initially, suppose Contente uses 1 million hours of labor per month to produce corn and 3 million hours per month to produce jeans, while Felicidad uses 3 million hours of labor per month to produce corn and 1 million hours per month to produce jeans. Consequently, Contente produces 8 million bushels of corn and 48 million pairs of jeans, and Felicidad produces 15 million bushels of corn and 20 million pairs of jeans. Assume there are no other countries willing to trade goods, so, in the absence of trade between these two countries, each country consumes the amount of corn and jeans it produces. Contente's opportunity cost of producing 1 bushel of corn is of jeans, and Felicidad's opportunity cost of producing 1 bushel of corn is of jeans. Therefore, has a comparative advantage in the production of corn, and v has a comparative advantage in the production of jeans. Suppose that each country completely specializes in the production of the good in which it has a comparative advantage, producing only that million bushels per month, and the country that produces jeans will good. In this case, the country that produces corn will produce produce. million nairs ner month produces 8 million bushels of corn and 48 million pairs of jeans, and Felicidad produces 15 million bushels of corn and 20 million pairs of jeans. Assume there are no other countries willing to trade goods, so, in the absence of trade between these two countries, each country consumes the amount of corn and jeans it produces. Contente's opportunity cost of producing 1 bushel of corn is of jeans, and Felicidad's opportunity cost of producing 1 bushel of corn is of jeans. Therefore, has a comparative advantage in the production of corn, and has a comparative advantage in the production of jeans. Suppose that each country completely specializes in the production of the good in which it has a comparative advantage, producing only that good. In this case, the country that produces corn will produce million bushels per month, and the country that produces jeans will P produce million pairs per month. In the following table, enter each country's production decision on the third row of the table (marked "Production"). Suppose the country that produces corn trades 18 million bushels of corn to the other country in exchange for 54 million pairs of jeans. In the following table, select the amount of each good that each country exports and imports in the boxes across the row marked "Trade Action," and enter each country's final consumption of each good on the line marked "Consumption." When the two countries did not specialize, the total production of corn was 23 million bushels per month, and the total production of jeans was 68 million pairs per month. Because of specialization, the total production of corn has increased by million bushels per month, and the total production of jeans has increased by million pairs per month. Because the two countries produce more corn and more jeans under specialization, each country is able to gain from trade. When the two countries did not specialize, the total production of corn was 23 million bushels per month, and the total production of jeans was 68 million pairs per month. Because of specialization, the total production of corn has increased by million bushels per month, and the total production of jeans has increased by million pairs per month. Because the two countries produce more com and more jeans under specialization, each country is able to gain from trade. Calculate the gains from trade-that is, the amount by which each country has increased its consumption of each good relative to the first row of the table. In the following table, enter this difference in the boxes across the last row (marked "Increase in Consumption"). Contente Felicidad Corn Jeans Corn Jeans (Millions of bushels) (Millions of pairs) (Millions of bushels) (Millions of pairs) Without Trade Production 8 48 15 20 Consumption 48 15 20 With Trade Production Trade action Consumption Gains from Trade Increase in Consumption

Answer 1

Output table when each country uses 4 million hours for each good is computed as follows.

	Corn (Million)	Jeans (Million)
Contente	8 x 4 = 32	16 x 4 = 64
Felicidad	5 x 4 = 20	20 x 4 = 80

(1) Opportunity cost (OC) is computed as follows.

In Contente, OC of Corn = 64/32 = 2 jeans

In Felicidad, OC of Corn = 80/20 = 4 jeans

(2) So,

Contente has comparative advantage in Corn (since Contente can produce corn at lower OC).

Felicidad has comparative advantage in jeans.

(3)

Country making Corn (Contente) will produce 32 million Corn.

Country making jeans (Felicidad) will produce 80 million jeans.

(4) Because of specialization,

Production of Corn has increased by 9 million (= 32 million - 23 million).

Production of jeans has increased by 12 million (= 80 million - 68 million).

(5) Contente exports 18 million Corn and imports 54 million jeans. Felicidad exports 54 million jeans and imports 18 million corn. Therefore:

	Contente		Felicidad
	Corn	Jeans	Corn	Jeans
WITHOUT TRADE:
Prod. & Consumption	8	48	15	20
WITH TRADE
Production	32	0	0	80
Trade Action:	Export:	Import:	Import:	Export:
	18 Corn	54 Jeans	18 Corn	54 jeans
Consumption	14	54	18	26
GAIN FROM TRADE
Increase in Consumption	6	6	3	6