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Sep.24, 2013.docx

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David Gray

ECO1104B Sep. 24 , 2013 YUJIE YI #7038840 Chapter 3 Independence and the Gains from the Trade (difficult!!) Gains from trade  Punch line: It is usually advantageous for countries, firms, individuals, or other economic units to SPECIALIZE in the production of one or a few G & S, and TRADE the majority of their product away in exchange for those G & S that they do NOT produce  Basic principle #5  International trade is usually economically beneficial  Parting words ofAlan Greenspan, former chairman of the Fed  “the world today faces a profound choice: to embrace the worldwide benefits of open markets and open societies that pull people out of poverty, or to embrace nativism, tribalism, populism… Because of advancing technology, rising productivity, and the growth of trade and the spread of free markets, the world of a global, capitalist economy… is vastly more flexible, resilient, open, and self-correcting and fast- changing that it was…”  Anti-thesis: the Robinson Crusoe economy of total self-sufficiency, which is called AUTARKY (the absence of trade)  By specialization and trade, the total amount of production available for consumption is far higher that it is in AUTARKY  Who should specialize in what? 1 /7  Each economic unit should specialize in the production of the good in which they have a COMPARATIVEADVANTAGE  Trade for the good in which they do not have it Import the goods which you do NOT have the comparative advantage, and export the goods which you DO have the comparative advantage. Comparative Advantage  As in the textbook, there are two producers, the farmer and the rancher, and two goods, meat and potatoes  Rancher has a comparative advantage in the production of meat if the gap between how well she produces meat compared to how well she produces potatoes is greater than this same gap is for farmer  Equivalently, the rancher has a comparative advantage in the production of meat if he produces meat with a lower opportunity cost in terms of potatoes than is the case for the farmer  Comparative advantage is determined by:  First examining opportunity costs between production of the 2 goods WITHIN each person separately  Second, comparing the opportunity cost ratio BETWEEN the two parties - Examining the ratio just means taking that number for the opportunity cost and making a common denominator of one (across the two producers)  Absolute advantage is determined by the pattern/ level of absolute productivity ECO1104B Sep. 24 , 2013 YUJIE YI #7038840  Whichever country or person or unit is more productive in the production of a good has the absolute advantage Productivity = output/ input (output divided by input)  - The higher the productivity of the firm/ productivity, the more efficient of the productivity process  It is NOT relevant for trade and specialization (It does not determine the pattern of trade)  It is relevant for determining living standards - WHY is the Canada rich? The Canadian country is more productive.  Numerical example of comparative advantage from textbook  Over the course of the day, the farmer can produce either [8 kg of meat and 0 kg of potatoes] OR [0 kg of meat and 32 kg of potatoes] - The farmer is thus 4 times as efficient in the production of potatoes as the farmer is in the production of meat - Another way of saying the same thing: opportunity cost is four-for-one (4 for 1 tradeoff)  -4 kg of potatoes = +1 kg of meat (give up 4 kg of potatoes = gain 1 kg of meat)  -1/4 kg of meat = +1 kg of potatoes 3/7 The rancher can produce either [ 24 kg of meat and 0 kg of potatoes] OR [ 0 kg of  meat and 48 kg of potatoes] - Although the rancher produces pota
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