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3. Gains from trade Consider two neighboring island countries called Bellissima and Felicidad. They each have 4 million labor hours available per week that they can use to produce jeans, corn, or a combination of both. The following table shows the amount of jeans or corn that can be produced using 1 hour of labor Jeans Corn (Bushels per hour of labor) 16 20 (Pairs per hour of labor) Country Bellissima Felicidad Initially, suppose Bellissima uses 1 million hours of labor per week to produce jeans and 3 million hours per week to produce corn, while Felicidad uses 3 million hours of labor per week to produce jeans and 1 million hours per week to produce corn. Consequently, Bellissima produces 8 million pairs of jeans and 48 million bushels of corn, and Felicidad produces 15 million pairs of jeans and 20 million bushels of com. 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 jeans and corn it produces. Bellissimas opportunity cost of producing 1 pair of jeans is 2 bushels of corn, and Felicidads opportunity cost of producing 1 pair of jeans is 4 bushels of com. Therefore, Bellissima has a comparative advantage in the production of jeans, and Felicidad has a comparative advantage in the production of corn.
Initally, suppose Bellissima uses 1 million hours of labor per week to produce jeans and 3 million hours p per week to produce corn, while Felicidad uses 3 million hours of labor per week to produce jeans and 1 million hours per week to produce corn. Consequently, Bellis jeans and 48 million bushels of corn, and Felicidad produces 15 million pairs of jeans and 20 million bushels of corm. 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 jeans and corn it produces. Bellissimas opportunity cost of producing 1 pair of jeans is 2 bushelsof corn, and Felidads opportunity cost of producing 1 pair of jeans is 4 bushels ▼ of corn. Therefore, Bellissima ▼ has a comparative advantage in the production of eans, and Felicidad ▼ has comparative advantage in the production of corn. 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 Jeans will produce 20 million pairs per week, and the country that produces corn will produce 64 million bushels per week. In the following table, enter each countrys production decision on the third row of the table (marked Production). Suppose the country that produces jeans trades 18 million pairs of jeans to the other country in exchange for 54 million bushels of corn 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 countrys final consumption of each good on the ine marked Consumption, When the two countries did not specialize, the total production of jeans was 23 millon pairs per week, and the total production of com was 68 million
When the two countries did not specialize, the total production of jeans was 23 million pairs per week, and the total production of com was 68 million bushels per week. Because of spedialization, the total production of jeans has increased by corn has increased by million pairs per week, and the total production of million bushels per week Because the two countries produce more jeans and more corn under specialization, each country is able to gain from trade. oains from trade-that is, the amount by which each country has increased its consumption of each oood relative to the first row of the table. In the following table, enter this difference in the boxes across the last row (marked tncrease in in the boxes across the last row (marked Increase in Consumption). Bellissima Felicidad Jeans Corn Jeans Corn (Millions of pairs) (Millions of bushels) (Millions of pairs) (Millions of bushels) Without Trade Production 48 15 20 Consumption 48 15 20 With Trade Production Trade action Consumption Imports 18 Exports 54Y Exports 10B Imports 54 Gains from Trade Increase in Consumption
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Answer #1

Following is the output table when both countries use 4 million hours per good.

Jeans (Million)

Corn (Million)

Bellissima

8 x 4 = 32

16 x 4 = 64

Felicidad

5 x 4 = 20

20 x 4 = 80

(1) Opportunity cost (OC)

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

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

(2) So,

Bellissima has comparative advantage in jeans (because it can produce jeans at a lower OC: 2 < 4).

Felicidad has comparative advantage in Corn.

(3)

Country making jeans (Bellissima) will produce 32 million jeans.

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

(4) Because of specialization,

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

Production of Corn has increased by 12 million (= 80 million – 68 million).

(5) Bellissima trades (exports) 18 million Jeans in exchange of (imports) 54 million Corn, and Felicidad trades (exports) 54 million Corn in exchange of (imports) 18 million Jeans.

Bellissima

Felicidad

Jeans

Corn

Jeans

Corn

WITHOUT TRADE:

Prod. & Consumption

8

48

15

20

WITH TRADE

Production

32

0

0

80

Trade Action:

Export:

Import:

Import:

Export:

18 Jeans

54 Corn

18 Jeans

54 Corn

Consumption

14

54

18

26

GAIN FROM TRADE

Increase in Consumption

6

6

3

6
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