In our last module,
we learned that trade can make two countries better off when each
specializes in the productions of the good for which it has a comparative advantage.
The goal in this model is to further illustrate why trade between two countries is still
advantageous to both countries even if
one country has an absolute advantage in the production of all goods.
For example, food and clothing.
So, let's pick up where we left off in the last module with the debate
between David Ricardo and John Strawman and our example of America and Europe,
both of which produce only two goods: food and clothing.
Now, to extend this example,
let's assume that both America and Europe have 600 hours of labor available.
Let's further assume that costs are constant so that we can draw
our production possibilities curve as a straight line rather than a bold curve.
And to keep things really simple,
let's also assume transportation costs are zero so we don't have to
worry about how much it costs to ship food and
clothing back and forth between America and Europe.
Now finally, as illustrated in this table,
let's recall that in Europe,
it takes three full hours of labor to produce
a unit of food but only one unit of labor in America.
And in Europe, it takes four hours of labor to produce a unit
of clothing but only two hours of labor in America.
So, at this point, why don't you try to draw
the production possibilities frontiers for
both America and Europe under these assumptions.
And, so that you and I are on the same page,
please put clothing on the vertical axis and food on the horizontal axis.
So, take a few minutes now to draw your figures and when you're ready,
let's see if your figures look like mine.
Okay, do your figures look like this?
Here we see that America can produce 300 units of clothing or
600 units of food or some linear combination thereof.
This is indicated by the production possibilities frontier
drawn as a red line in the left hand figure.
In contrast, Europe can produce 150 units of clothing or 200 units of
food and this is indicated by
the production possibilities frontier drawn as a black line in the right hand figure.
So, one conclusion that we can draw from these figures
is that if Europe completely cuts off trade with America,
the best the Europeans can do is to consume no more than 150 units of
clothing or 200 units of food or some combination thereof.
Do you see that?
Take a minute now to make sure you understand this.
Now at this point in the demonstration,
David Ricardo turns to John Strawman and says this,
"Suppose I sent you to America with 150 units of clothing.
How many units of food could you trade that for?"
So what's the answer to Ricardo's question?
Please take a minute now,
jot down your answer before moving on.
