Question

PLEASE show how you arrived at your answers. Thank you.

………………………..Labor Hours Per Kilogram Ice Cream……… Labor Hours Per Kilogram Milk

Schenectady                                      3                                                                              2

Poughkeepsie                                   5                                                                              2

1.            Which of the following is true?

                                A.            Schenectady has absolute advantage in milk production.

                                B.            Schenectady has absolute advantage in ice-cream production.

                                C.            Poughkeepsie has absolute advantage in milk production.

                                D.            Poughkeepsie has absolute advantage in ice-cream production.

2.            What is the relative price of ice-cream in Schenectady and Poughkeepsie?

                                A.            {2/3, 2/5}

                                B.            [3/5, 1}

                                C.            {1.5, 2.5}

                                D.            {5/3, 1}

                                E.            {.67, .4}

3.            Assume two countries open up to international trade based on their comparative advantage. Which of the following is true?

                                A.            Relative price of ice-cream increases in Poughkeepsie

                                B.            Poughkeepsie exports ice-cream

                                C.            Schenectady exports milk

                                D.            Relative price of ice-cream increases in Schenectady

4. Assume that international price level increase to 2.3 M/I. Which of the following would be correct?

                                A.            Terms of trade increases for Schenectady

                                B.            Terms of trade increases for Poughkeepsie

                                C.            The price line will be flatter for Schenectady compared to the situation when it was 2 M/I.

                                D.            The price line will be flatter for Poughkeepsie compared to the situation when it was 2 M/I.

Answer 1

1. Absolute Advantage:

Absolute advantage is the ability of a country to produce a good or service at a lower per unit cost as compared to any other country that produces same good or service.

D. Poughkeepsie has absolute advantage in ice-cream production.

2. Relative price of ice cream in Poughkeepsie = 5/2 = 2.5

Relative price of ice cream in Schenectady = 3/2 = 1.5

C. {1.5, 2.5}

3. A country has a comparative advantage in producing that good if the opportunity cost of producing that good is lower in that country as compared to another country.

Schenectady:

3 ice-cream = 2 milk

1 ice-cream = 2/3 = 0.67 milk

Poughkeepsie:

5 ice-cream = 2 milk

1 ice-cream = 2/5 = 0.4 milk

So, Poughkeepsie has comparative advantage in the production of ice-cream. This means Poughkeepsie will export ice cream.

B. Poughkeepsie exports ice-cream