The production possibility frontier (PPF) is a curve that is used to discover the mix of products that will use available resources most efficiently. Comparative advantage is a term associated with 19th Century English economist David Ricardo. (One should not compare the monetary costs of production or even the resource costs (labor needed per unit of output) of production. Comparative advantage is determined by which person or group of persons can produce a given quantity of a good using the fewest resources. Differences Between Absolute and Comparative Advantage. Winter Term 2014 Comparative Advantage Study Questions (with Answers) Page 3 of 6 (8) 6. More simply, this means that a … The key to understanding comparative advantage is a solid grasp of opportunity cost. It’s where their comparative advantage lies. This involves for example, providing non-viable firms with subsidies (e.g., through fiscal transfers) and protections. What Is the Concept of Utility in Microeconomics? Understanding Microeconomics vs. Macroeconomics, Differentiate Between Micro and Macro Economics, Microeconomics vs. Macroeconomics Investments. a. B. relative differences in labor productivity between countries b) absolute costs of production in each country after accounting for inflation. d. Absolute advantage refers to the uncontested superiority of a country to produce a particular good better. Hypothetically, say that Michael Jordan could paint his house in eight hours. The trading principle formulated by Adam Smith maintained that: A) International prices are determined from the demand side of the market B) Differences in resource endowments determine comparative advantage C) Differences in income levels govern world trade patterns D) Absolute cost differences determine the immediate basis for trade This desire leads the shoemakers to lobby for, say, special tax breaks for their products and/or extra duties (or even outright bans) on foreign footwear. The theory of comparative advantage A country has a comparative advantage when it can produce a good at a lower opportunity cost than another country; alternatively, when the relative productivities between goods compared with another country are the highest. The country may not be the best at producing something. So long as Michael Jordan makes the expected $50,000 and Joe earns more than $100, the trade is a winner. In this case, the attorney has an absolute advantage in both the production of legal services and secretarial work. of comparative advantage™; see Paul Samuelson (1995, p. 22). And for every pound … Comparative advantage is determined by differences in the labour hours requires to produce each good. The benefits of buying its good or service outweigh the disadvantages. In economics, absolute advantage refers to the superior production capabilities of an entity while comparative advantage is based on the analysis of opportunity cost. Following Ricardo, economists have argued that productivity differences account for comparative advantage. Use the law of comparative advantage to determine what goods countries will specialize in. Investopedia uses cookies to provide you with a great user experience. b. In this example, Joe has a comparative advantage, even though Michael Jordan could paint the house faster and better. One Approach, The Output-per-fixed-input Approach, Appears On The Trade Infographic Of Week 6. Even if laborers would be most productive by switching from making shoes to making computers, nobody in the shoe industry wants to lose their job or see profits decrease in the short run. The law of comparative advantage is popularly attributed to English political economist David Ricardo and his book “On the Principles of Political Economy and Taxation” written in 1817, although it is likely that Ricardo's mentor, James Mill, originated the analysis. Your email address will not be published. for two goods 1 and 2, then –eld 2 has a comparative advantage in good 2.2 1In line with Ricardo™s theory of comparative advantage, the focus of our paper is on the supply-side of the economy, not the demand-side considerations that would ultimately pin down prices around the world. ... What matters is comparative advantage. Truth, however, in Samuelson™s reply refers to the fact that Ricardo™s theory of comparative advantage is mathematically correct, not that it is empirically valid. Put simply, an opportunity cost is a potential benefit that someone loses out on when selecting a particular option over another. Eventually, that country will be at a disadvantage relative to its neighbors: countries that were already better able to produce these items at a lower opportunity cost. Why doesn't the world have open trading between countries? Another way to think of comparative advantage is as the best option given a trade-off. The secretary can produce $0 in legal services and $20 in secretarial duties in an hour. For example, the natural availability of mineral resources like iron, gold, and copper is not something a country can change. 1. In economics, a comparative advantage occurs when a country can produce a good or service at a lower opportunity cost Opportunity CostOpportunity cost is one of the key concepts in the study of economics and is prevalent throughout various decision-making processes. This drives people into those jobs that they are comparatively best at. Chinese workers produce simple consumer goods at a much lower opportunity cost. Comparative advantage theory is a static theory and does not take account of some of the more dynamic elements determining world trade. Michael Jordan would likely be able to, say, paint his house quickly, owing to his abilities as well as his impressive height. Comparative advantage is an economy's ability to produce a particular good or service at a lower opportunity cost than its trading partners. C. Both (a) and (b) A quota or protectionism is a government-imposed trade restriction limiting the number or value of goods a nation imports or exports during a specific time. The United States’ comparative advantage is in specialized, capital-intensive labor. Comparative advantage refers to the ability to produce goods and services at a lower opportunity cost, not necessarily at a greater volume or quality. 4. 2. As an example, consider a famous athlete like Michael Jordan. Use the following information to determine Brunei’s gains from trade. In order to determine if comparative advantages exist between the two countries, you have to figure out the opportunity cost of making one unit of one of the items. Comparative advantage is closely associated with free trade, which is seen as beneficial, whereas tariffs closely correspond to restricted trade and a zero-sum game. In this case, Portugal was able to make wine at a low cost, while England was able to cheaply manufacture cloth. Comparative advantage in clarinets. Appeals to save American jobs and preserve a time-honored American craft abound, even though, in the long run, American laborers would be made relatively less productive and American consumers relatively poorer by such protectionist tactics. 1 Comparative and Absolute Advantage and the Production Possibilities Frontier1 Instructional Primer2 The Ricardian principles of Comparative and Absolute Advantage have shaped the discussion on trade for centuries, indeed they form the basis from which we understand why two nations engage in trade. Adherents to this analytical approach believe that countries engaged in international trade will have already worked toward finding partners with comparative advantages. Explain how market forces lead … Economics Mcqs. We show this by comparing location specific distributions of the Balassa-Index (BI). Tags: Question 6 . In Ricardo’s theory, differences in the productivity of labour accounted for comparative advantage. A comparative advantage gives a company the ability to sell goods and services at a lower price than its competitors and realize stronger sales margins. To produce $25 in income from secretarial work, the attorney must lose $175 in income by not practicing law. A major factor that affects comparative advantage is the country’s quality and quantity of the factors of production. According to the theory of comparative advantage, which of the following is not a reason why countries trade? These resources come from the import competing comparative disadvantage sector. Countries that implement the CAD strategy promote the development of advanced capital-intensive (heavy) industries that are not consistent with their comparative advantage, which is determined by their factor endowments. Suppose the attorney produces $175 per hour in legal services and $25 per hour in secretarial duties. ... Country A has the comparative advantage in shirts & Country B has the comparative advantage in chairs. Owing to their diversity of skills, Michael Jordan and Joe would likely find this to be the best arrangement for their mutual benefit. The goal of this paper is to assess the empirical performance of Ricardo™s ideas. A comparative advantage gives a … Both countries saw that it was to their advantage to stop their efforts at producing these items at home and, instead, to trade with each other in order to acquire them. Tags: Question 6 . A. actual differences in labor productivity between countries B. relative differences in labor productivity between countries C. Both (a) and (b) D. Neither (a) nor (b) Mcq Added by: Adden wafa. here you will find the the Baisc to Advance and most Important Economics Mcqs for your test preparation. Comparative advantage is an economy's ability to produce a particular good or service at a lower opportunity cost than its trading partners. A contemporary example: China’s comparative advantage with the United States is in the form of cheap labor. Specializing and trading along these lines benefit each. As a renowned basketball and baseball star, Michael Jordan is an exceptional athlete whose physical abilities surpass those of most other individuals. Which of the following statements is a fair comparison of the Heckscher-Ohlin theory and the Ricardo theory (i.e. Comparative advantage is a key insight that trade will still occur even if one country has an absolute advantage in all products. Foreign demand will tend to drive up (down) the autarky price of a country's comparative advantage (disadvantage) good, raising short term profits and attracting resources to that industry. If you're comparing two different options, each of which has a trade-off (some benefits as well as some disadvantages), the one with the best overall package is the one with the comparative advantage. If a skilled mathematician earns more money as an engineer than as a teacher, they and everyone they trade with are better off when they practice engineering. How Does Government Policy Impact Microeconomics? Rent seeking occurs when one group organizes and lobbies the government to protect its interests. Ricardo predicted that each country would eventually recognize these facts and stop attempting to make the product that was more costly to generate. Factors of Production. Comparative Advantage vs. Absolute Advantage, Comparative Advantage vs. © Copyright 2016-2020 - www.PakMcqs.com/. Comparative advantage is determined by autarky prices. BIBLIOGRAPHY. Suppose that Australia and Brazil have the outputs per worker in producing sleds and clarinets shown in the table at the right. Balance of Payments, Aid and Foreign Investment, Characteristics and Institutions of Developing Countries, Exchange-Rate Systems And Currency Crises. Which of the following is true? Comparative Advantage and the Gains from Trade Part 1: Multiple Choice Select the best answer of those given. It is also one of the most commonly misunderstood principles. American workers produce sophisticated goods or investment opportunities at lower opportunity costs. Required fields are marked *. Nevertheless, they benefit from trade thanks to their comparative advantages and disadvantages. The company with the lower opportunity cost, and thus the smallest potential benefit which was lost, holds this type of advantage. What Factors Influence a Change in Demand Elasticity? 38. When there is free trade, why do some countries remain poor at the expense of others? International trade - International trade - Sources of comparative advantage: As already noted, British classical economists simply accepted the fact that productivity differences exist between countries; they made no concerted attempt to explain which commodities a country would export or import. Economics Mcqs for test Preparation from Basic to Advance. 38. Is Demand or Supply More Important to the Economy? Differences Between Absolute and Comparative Advantage. Comparative advantage suggests that countries will engage in trade with one another, exporting the goods that they have a relative advantage in. of butter. Comparative advantage is an economy's ability to produce a particular good or service at a lower opportunity cost than its trading partners. 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