Hey, this question might appear very basic at this time…but could anyone please explain the example of the law of comparative advantage on Pg 160 in the Schweser Econ book? A Country called Alton chooses to produce 12 million tons of Food and 18 million Machinery, while country Borton chooses to produce 4 million tons of food and 7 million Machinery. What is each country’s opportunity cost of producing one good relative to another? The example indicates the opportunity cost for Alton as - 3 million tons vs 1 million machines; for Borton - 5 million tons of food and one million machines Would appreciate it if anyone has the time to explain the logic behind this answer?? Thanks!!
Comparative advantage is all about each country’s opportunity cost for producing something. So for Alton to produce 1 million machines, it must forego producing 3 million tons of food, while Borton must forego 5 million tons of food for 1 million machines. Therefore, Alton can produce machines at a cheaper opportunity cost than Borton (3 mil tons of food vs. 5). Likewise, for Alton to produce 1 million tons of food, it must forego producing 1/3 million tons of machines, because it’s a 3-to-1 ratio, while Borton only needs to forego 1/5 million (5-to-1 ratio) tons of machines. Therefore, Borton should specialize in producing food, because it has a smaller opportunity cost. That’s the basis of comparative advantage… Out of two countries, each country will be better off specializing in producing what has a smaller opportunity cost in that country.
Thanks for taking the time to Reply. It does make sense !!