## Key Concepts

A country has an absolute advantage in those products in which it has a productivity edge over other countries; it takes fewer resources to produce a product. A country has a comparative advantage when it can produce a good at a lower cost in terms of other goods. Countries that specialize based on comparative advantage gain from trade.

19.2 What Happens When a Country Has an Absolute Advantage in All Goods

Even when a country has high levels of productivity in all goods, it can still benefit from trade. Gains from trade come about as a result of comparative advantage. By specializing in a good that it gives up the least to produce, a country can produce more and offer that additional output for sale. If other countries specialize in the area of their comparative advantage as well and trade, the highly productive country is able to benefit from a lower opportunity cost of production in other countries.

19.3 Intra-industry Trade between Similar Economies

A large share of global trade happens between high-income economies that are quite similar in having well-educated workers and advanced technology. These countries practice intra-industry trade, in which they import and export the same products at the same time, like cars, machinery, and computers. In the case of intra-industry trade between economies with similar income levels, the gains from trade come from specialized learning in very particular tasks and from economies of scale. Splitting up the value chain means that several stages of producing a good take place in different countries around the world.

19.4 The Benefits of Reducing Barriers to International Trade

Tariffs are placed on imported goods as a way of protecting sensitive industries, for humanitarian reasons, and for protection against dumping. Traditionally, tariffs were used as a political tool to protect certain vested economic, social, and cultural interests. The WTO has been, and continues to be, a way for nations to meet and negotiate in order to reduce barriers to trade. The gains of international trade are very large, especially for smaller countries, but are beneficial to all.

## Questions

1. True or False: The source of comparative advantage must be natural elements like climate and mineral deposits. Explain.

2. Brazil can produce 100 pounds of beef or 10 autos. In contrast the United States can produce 40 pounds of beef or 30 autos. Which country has the absolute advantage in beef? Which country has the absolute advantage in producing autos? What is the opportunity cost of producing one pound of beef in Brazil? What is the opportunity cost of producing one pound of beef in the United States?

3. In France it takes one worker to produce one sweater, and one worker to produce one bottle of wine. In Tunisia it takes two workers to produce one sweater, and three workers to produce one bottle of wine. Who has the absolute advantage in production of sweaters? Who has the absolute advantage in the production of wine? How can you tell?

4. In Germany it takes three workers to make one television and four workers to make one video camera. In Poland it takes six workers to make one television and 12 workers to make one video camera.

1. Who has the absolute advantage in the production of televisions? Who has the absolute advantage in the production of video cameras? How can you tell?
2. Calculate the opportunity cost of producing one additional television set in Germany and in Poland. (Your calculation may involve fractions, which is fine.) Which country has a comparative advantage in the production of televisions?
3. Calculate the opportunity cost of producing one video camera in Germany and in Poland. Which country has a comparative advantage in the production of video cameras?
4. In this example, is absolute advantage the same as comparative advantage, or not?
5. In what product should Germany specialize? In what product should Poland specialize?

5. How can there be any economic gains for a country from both importing and exporting the same good, like cars?

6. Table $$\PageIndex{1}$$ shows how the average costs of production for semiconductors (the “chips” in computer memories) change as the quantity of semiconductors built at that factory increases.
1. Based on these data, sketch a curve with quantity produced on the horizontal axis and average cost of production on the vertical axis. How does the curve illustrate economies of scale?
2. If the equilibrium quantity of semiconductors demanded is 90,000, can this economy take full advantage of economies of scale? What about if quantity demanded is 70,000 semiconductors? 50,000 semiconductors? 30,000 semiconductors?
3. Explain how international trade could make it possible for even a small economy to take full advantage of economies of scale, while also benefiting from competition and the variety offered by several producers.
Quantity of Semiconductors Average Total Cost
10,000 $8 each 20,000$5 each
30,000 $3 each 40,000$2 each
100,000 $2 each Table $$\PageIndex{1}$$ 7. If the removal of trade barriers is so beneficial to international economic growth, why would a nation continue to restrict trade on some imported or exported products? 8. What is absolute advantage? What is comparative advantage? 9. Under what conditions does comparative advantage lead to gains from trade? 10. What factors does Paul Krugman identify that supported expanding international trade in the 1800s? 11. Is it possible to have a comparative advantage in the production of a good but not to have an absolute advantage? Explain. 12. How does comparative advantage lead to gains from trade? 13. What is intra-industry trade? 14. What are the two main sources of economic gains from intra-industry trade? 15. What is splitting up the value chain? 16. Are the gains from international trade more likely to be relatively more important to large or small countries? 17. Are differences in geography behind the differences in absolute advantages? 18. Why does the United States not have an absolute advantage in coffee? 19. Look at Exercise 19.2. Compute the opportunity costs of producing sweaters and wine in both France and Tunisia. Who has the lowest opportunity cost of producing sweaters and who has the lowest opportunity cost of producing wine? Explain what it means to have a lower opportunity cost. 20. You just overheard your friend say the following: “Poor countries like Malawi have no absolute advantages. They have poor soil, low investments in formal education and hence low-skill workers, no capital, and no natural resources to speak of. Because they have no advantage, they cannot benefit from trade.” How would you respond? 21. Look at Table 19.9. Is there a range of trades for which there will be no gains? 22. You just got a job in Washington, D.C. You move into an apartment with some acquaintances. All your roommates, however, are slackers and do not clean up after themselves. You, on the other hand, can clean faster than each of them. You determine that you are 70% faster at dishes and 10% faster with vacuuming. All of these tasks have to be done daily. Which jobs should you assign to your roommates to get the most free time overall? Assume you have the same number of hours to devote to cleaning. Now, since you are faster, you seem to get done quicker than your roommate. What sorts of problems may this create? Can you imagine a trade-related analogy to this problem? 23. Does intra-industry trade contradict the theory of comparative advantage? 24. Do consumers benefit from intra-industry trade? 25. Why might intra-industry trade seem surprising from the point of view of comparative advantage? 26. In World Trade Organization meetings, what do you think low-income countries lobby for? 27. Why might a low-income country put up barriers to trade, such as tariffs on imports? 28. Can a nation’s comparative advantage change over time? What factors would make it change? 29. France and Tunisia both have Mediterranean climates that are excellent for producing/harvesting green beans and tomatoes. In France it takes two hours for each worker to harvest green beans and two hours to harvest a tomato. Tunisian workers need only one hour to harvest the tomatoes but four hours to harvest green beans. Assume there are only two workers, one in each country, and each works 40 hours a week. 1. Draw a production possibilities frontier for each country. Hint: Remember the production possibility frontier is the maximum that all workers can produce at a unit of time which, in this problem, is a week. 2. Identify which country has the absolute advantage in green beans and which country has the absolute advantage in tomatoes. 3. Identify which country has the comparative advantage. 4. How much would France have to give up in terms of tomatoes to gain from trade? How much would it have to give up in terms of green beans? 30. In Japan, one worker can make 5 tons of rubber or 80 radios. In Malaysia, one worker can make 10 tons of rubber or 40 radios. 1. Who has the absolute advantage in the production of rubber or radios? How can you tell? 2. Calculate the opportunity cost of producing 80 additional radios in Japan and in Malaysia. (Your calculation may involve fractions, which is fine.) Which country has a comparative advantage in the production of radios? 3. Calculate the opportunity cost of producing 10 additional tons of rubber in Japan and in Malaysia. Which country has a comparative advantage in producing rubber? 4. In this example, does each country have an absolute advantage and a comparative advantage in the same good? 5. In what product should Japan specialize? In what product should Malaysia specialize? 31. Review the numbers for Canada and Venezuela from Table 19.12 which describes how many barrels of oil and tons of lumber the workers can produce. Use these numbers to answer the rest of this question. 1. Draw a production possibilities frontier for each country. Assume there are 100 workers in each country. Canadians and Venezuelans desire both oil and lumber. Canadians want at least 2,000 tons of lumber. Mark a point on their production possibilities where they can get at least 3,000 tons. 2. Assume that the Canadians specialize completely because they figured out they have a comparative advantage in lumber. They are willing to give up 1,000 tons of lumber. How much oil should they ask for in return for this lumber to be as well off as they were with no trade? How much should they ask for if they want to gain from trading with Venezuela? Note: We can think of this “ask” as the relative price or trade price of lumber. 3. Is the Canadian “ask” you identified in (b) also beneficial for Venezuelans? Use the production possibilities frontier graph for Venezuela to show that Venezuelans can gain from trade. 32. In Exercise 19.31, is there an “ask” where Venezuelans may say “no thank you” to trading with Canada? 33. From earlier chapters you will recall that technological change shifts the average cost curves. Draw a graph showing how technological change could influence intra-industry trade. 34. Consider two countries: South Korea and Taiwan. Taiwan can produce one million mobile phones per day at the cost of$10 per phone and South Korea can produce 50 million mobile phones at \$5 per phone. Assume these phones are the same type and quality and there is only one price. What is the minimum price at which both countries will engage in trade?

35. If trade increases world GDP by 1% per year, what is the global impact of this increase over 10 years? How does this increase compare to the annual GDP of a country like Sri Lanka? Discuss. Hint: To answer this question, here are steps you may want to consider. Go to the World Development Indicators (online) published by the World Bank. Find the current level of World GDP in constant international dollars. Also, find the GDP of Sri Lanka in constant international dollars. Once you have these two numbers, compute the amount the additional increase in global incomes due to trade and compare that number to Sri Lanka’s GDP.