AP Macroeconomics
Comparative Advantage
FRQ - 2010B #1; 2008 #3
David Ricardo
• English economist
responsible for
promoting
comparative
advantage as the
basis of trade
Absolute Advantage v.
Comparative Advantage
• Absolute Advantage
– Individual – exists when a person can produce
more of a certain good/service than someone
else in the same amount of time.
– National- exists when a country can produce
more of a good/service than another country
can in the same time period.
• Comparative Advantage
– Individual/National- exists when an individual
or nation can produce a good/service at a
lower opportunity cost than can another
individual or nation
Specialization
• Individuals and Countries can be
made better off if they will produce in
what they have a comparative
advantage and then trade with others
for whatever else they want/need.
How will specialization within a country
influence the factors of production?
Example
Bake Cakes Make Pizza
Juniors
2 cakes/hr.
6 pizzas/hr.
Seniors
4 cakes/hr.
8 pizzas/hr.
Coffee
30
Coffee
20
12
8
18
30
Wheat
4 10
Wheat
Absolute Advantage? Should the U.S. and
Brazil specialize and trade?
Even though the U.S. has an absolute advantage in both goods – it should specialize and trade.
Step 1:
Step 2:
Set up the problem
Identify Production Maximums
Coffee
Wheat
U.S.
30 1
30 1 (1C)
Brazil
20 2 (1/2 W)
Step 2:
Step 3:
Step 4:
10 1 (2C)
Reduce Ratios
Identify Opportunity Cost
Compare Costs --- lowest has CA
Coffee:
Brazil
(1W)
Wheat:
U.S.
U.S.
Brazil
Coffee
Wheat
12
18
8
4
20
20
22
30
+8
Step 1:
Step 2:
Step 3:
Step 4:
Before
After
Gain
Set up the problem
Identify production prior to specialization
Total production in each product prior to specialization
Identify maximum possible production of each product
with specialization according to comparative advantage
Step 5: Compare output before/after specialization and trade
U.S.
Brazil
1C
1.5C
2C
=
=
=
1W
1W
1/2 W
Possible
Term of
Trade
Step 1: Identify original reduced ratios for each country
Step 2: Terms of trade fall between the limits set by the ratios
Step 3: Trading possibilities are the maximums set by the ratios
U.S.
Brazil
Trading Possibilities:
1C
1.5C
2C
=
=
=
1W
1W
1W
Possible
Term of
Trade
1C < 1W < 2C
Both nations benefit from 1.5C traded for 1W. Prior to trade, the
U.S. gave up 1W for each coffee. With trade, the U.S. can receive
1.5C for each unit of wheat. Before trade, Brazil gave up 2C for each
unit of wheat. With trade, Brazil gives up only 1.5C for each wheat.
Should the U.S. and Brazil specialize and trade?
Why: Efficiency Argument and Output Argument
More efficient use of scarce global resources
• The U.S. gives up 1 coffee for each wheat / Brazil gives up 2
coffees for each wheat --- The U.S. gives up less to produce wheat.
• Brazil gives up ½ wheat for each coffee / U.S. gives up 1
wheat for each coffee --- Brazil gives up less to produce coffee.
Gains from trade --- more can be produced from the same resources
• 8 additional units of wheat can be produced through specialization and
trade
Distinguishing:
Input/Output Problems
Distinguishing input from output
problems.
• An OUTPUT problem presents the data as
products produced given a set of
resources. (ex. Number of pens
produced)
• An INPUT problem presents the data as
amount of resources needed to produce
a fixed amount of output. (ex. Number of
labor hours to produce 1 bushel)
• When identifying absolute advantage,
input problems change the scenario from
who can produce the most to who can
produce a given product with the least
amount of resources.
Which type of problem?
• Acres to produce one unit of each.
Apples
Pears
Tom
10
5
Sam
6
2
• Input problem
Absolute Advantage?
• Acres to produce one unit of each.
Apples
Pears
Tom
10
5
Sam
6
2
• Who has the absolute advantage in
apples and pears?
Sam
Explanation
• Acres to produce one unit of each.
Apples
Pears
Tom
10
5
Sam
6
2
• Sam has an absolute advantage in both pears and
apples because he can produce 1 unit of each in
fewer acres than Tom. Absolute advantage in INPUT
problems is based on using the LEAST amount of
resources to produce the given unit(s) of product.
Input or Output problem?
• Number caught per day.
Trout
Bass
Tom
4
6
Sam
24
12
Output problem
Absolute Advantage?
• Number caught per day.
Trout
Bass
Tom
4
6
Sam
24
12
• Which guy has the absolute advantage in
the production of each product?
Sam
Explanation:
• Number caught per day.
Trout
Bass
Tom
4
6
Sam
24
12
• Sam has an absolute advantage in
catching both trout and bass as he can
catch more of each than Tom in one
day’s time.
Input or Output Problem?
• Days to produce one unit of each.
Cars
Planes
XYZ Corp.
8
10
QKFX Corp.
15
12
• Input problem
Explanation:
• Days to produce one unit of each.
Cars
Planes
XYZ Corp.
8
10
QKFX Corp.
15
12
• This is an input problem as it refers to how
many days (work days for labor) will be
needed to produce 1 unit. The problem is
phrased in terms of resources used rather
than products produced.
Absolute Disadvantage?
• Days to produce one unit of each.
Cars
Planes
XYZ Corp.
8
10
QKFX Corp.
15
12
• Which corporation has an absolute
disadvantage in the production of both
products?
QKFX
Explanation:
• Days to produce one unit of each.
Cars
Planes
XYZ Corp.
8
10
QKFX Corp.
15
12
• XYZ has an absolute advantage in producing
both cars and planes because it can
produce 1 unit of each in less time (days)
than QKFX. This means that QKFX has an
absolute disadvantage in producing both
products. QKFX uses more days to produce
both products.
Input or Output Problem?
• To produce the following from one ton of
olives.
Canned
Olive Oil
Olives
Zaire
60
10
Colombia
24
Output problem
8
Explanation?
• To produce the following from one ton of
olives.
Canned
Olive Oil
Olives
Zaire
60
10
Colombia
24
8
• This is an output problem because it is the
number produced (output in canned
olives and olive oil) from a given unit of
resources (1 ton of olives)
Absolute Advantage?
• To produce the following from one ton of
olives.
Canned
Olive Oil
Zaire
Colombia
Olives
60
10
24
8
• Which nation has the absolute advantage
in both products?
Zaire
Explanation:
• To produce the following from one ton of
olives.
Canned
Olive Oil
Zaire
Colombia
Olives
60
10
24
8
• Zaire has an absolute advantage in
producing both products because it can
produce more given the unit of resources
available (1 ton of olives).
FRQ – 2003 #3
• Assume that two countries, Atlantis and Xanadu, have equal amounts
of resources. Atlantis can produce 30 cars
• or 10 tractors or any combination, as shown by the line MN in the
figure above. Xanadu can produce 20 cars or
• 40 tractors or any combination, as shown by the line PQ in the figure
above.
• (a) Which country has an absolute advantage in the production of
tractors? Explain how you determined your
• answer.
• (b) Which country has a comparative advantage in the production of
cars? Using the concept of opportunity
• cost, explain how you determined your answer.
• (c) If the two countries specialize and trade with each other, which
country will import cars? Explain why.
• (d) If the terms of trade are such that one car can be exchanged for
one tractor, explain how Atlantis will benefit
• from such trade