Question

Suppose that each worker in Belgium can produce either 20 units of food per hour or 80 units of machinery per hour. At the same time, workers in France can produce either 15 units of food per hour or 30 units of machinery per hour.

Choose a mutually advantageous world price ratio, if any exists, and explain why it improves the well-being of both trading parties. If none exists, explain why.

Explain the consequences if the world price ratio was 5 machines per unit of food.

Answer 1

For Belgium, the opportunity cost of machines in terms of food is 80/20 = 4 units of machinery  per unit of food

The opportunity cost of machinery  in terms of food in France = 30/15 = 2 units of machinery per unit of food

Clearly, Belgium has a comparative advantage in machinery production and would sell machinery to France in exchange for food.

Therefore, mutually beneficial trade could take place at any price between 2 units of machinery per unit of food and 4 units of machinery per unit of food.

So the choice of a mutually beneficial price is 3 units of machinery per unit of food.

At a price of 5 units of machinery per unit of food , Belgium will not trade since the opportunity cost of producing food in Belgium is only 4 units of machinery. So, trade will not occur at this price.