Problem 1
1. Assume that the world economy is composed of only two countries (Canada and the United
States) and only two goods (steel and wheat). The table below reports the units of labor needed
to produce a ton of steel or of wheat in Canada and in the United States.
Canada
United States
Units of labor per
ton of steel
18
10
Units of labor per
ton of wheat
6
4
a) What is the opportunity cost of steel and of wheat in Canada? In the United States?
b) Which country has a comparative advantage in which good? Why?
Assume that Canada and the United States currently are completely specialized according to
comparative advantage. Each country trades with the other to acquire the good in which it has a
comparative disadvantage.
c) Now assume that it becomes politically unpopular in both Canada and the United
States to be “dependent” on the other country for a good as important as steel or wheat. Canada
decides to move 3 units of labor out of its comparative advantage industry and into the
comparative disadvantage industry, and the United States 2 units of labor. By completing the
table below, show the changes in production of steel and wheat that result from the change in
trade policy.
Canada
United States
Total (C+US)
Change in steel production ________
________
________
Change in wheat production________
________
________
Currently there are 1,800 workers in Canada and 2,000 in the United States. Carefully draw the
production possibility curves for Canada and the United States. Please put steel on the vertical
axis and wheat on the horizontal axis. Write numerical values for all intercepts. Are the curves
bowed out? Explain.
e) Draw the production possibilities curve for Canada and the United States combined. Write
numerical values for all intercepts and kink points. Explain why this curve is not linear and why
it is shaped the way it is.
2. Consider the following information regarding production technologies in two countries:
Labor days needed to build one boat
Labor days needed to build one sewing machine
Bolivia
Argentina
100
200
2
20
a. Which country has a comparative advantage in the production of boats; of sewing
machines? Explain your answer with reference to opportunity costs.
b. Which country has an absolute advantage in the production of boats; of sewing
machines? Explain your answer.
c. Describe the range for the price of boats (in terms of sewing machines per boat) within
which both countries will be willing to trade. Explain why trade won’t take place if the
price of boats is above this range.
d. Show that trade increases Bolivian consumption of boats and/or sewing machines as long
as the price of boats does not equal the pre-trade price of boats in Bolivia.
e. Does trade increase consumption of boats and/or sewing machines in Argentina if the
price of boats equals the pre-trade price of boats in Bolivia?
3.
Suppose that each year, Amherst College can produce two types of graduates: Fuzzies
(eg., music majors) and Techies (eg., physics majors). The following table describes the
college’s production possibilities.
Fuzzies
300
275
250
225
175
100
0
Techies
0
100
175
225
250
275
300
a.
draw and label the college’s Production Possibilities Frontier (PPF)
(hint: use a scale of 1 square per 25 students; don’t forget to label the axes)
b.
For each of the following combinations, mark them on the graph and say whether they
are efficient, inefficient, or impossible:
A:
250 fuzzies & 275 techies:
_________________________
B:
150 fuzzies & 200 techies:
_________________________
C:
100 fuzzies & 275 techies:
_________________________
c.
Given its production possibilities, if the college wants to maximize total tuition income
(ie., the number of students), how many techies and how many fuzzies will it produce?
_____________________________
d.
In what units would you measure the opportunity cost of adding a Fuzzie?
____________________________
e.
e.
What are the opportunity costs of an additional 50 Fuzzie Students if the college is
producing efficiently and the current number of Fuzzie students is:
175?
__________________________
250?
__________________________
Explain why the opportunity costs of an additional Fuzzie are greater when the total
number of Fuzzies is greater
________________________________________________________________________
________________________________________________________________________
________________________________________________________________________
f.
Sketch what might happen to the PPF if the college hires 10 more music professors and
fires 10 physics professors.