Question

Gains from trade

Consider two neighboring island countries called Bellissima and Felicidad. They each have 4 million labor hours available per week that they can use to produce jeans, rye, or a combination of both. The following table shows the amount of jeans or rye that can be produced using 1 hour of labor.

Country	Jeans	Rye
	(Pairs per hour of labor)	(Bushels per hour of labor)
Bellissima	6	12
Felicidad	4	16

Initially, suppose Bellissima uses 1 million hours of labor per week to produce jeans and 3 million hours per week to produce rye, while Felicidad uses 3 million hours of labor per week to produce jeans and 1 million hours per week to produce rye. Consequently, Bellissima produces 6 million pairs of jeans and 36 million bushels of rye, and Felicidad produces 12 million pairs of jeans and 16 million bushels of rye. Assume there are no other countries willing to trade goods, so, in the absence of trade between these two countries, each country consumes the amount of jeans and rye it produces.

Bellissima's opportunity cost of producing 1 pair of jeans is ___1/2 bushel or 1/4 bushel or 2 bushel or 4 bushel__ of rye, and Felicidad's opportunity cost of producing 1 pair of jeans is   ___1/2 bushel or 1/4 bushel or 2 bushel or 4 bushel__ of rye. Therefore, ___Bellissima or Felicidad__ has a comparative advantage in the production of jeans, and ___Bellissima or Felicidad_ has a comparative advantage in the production of rye.

Suppose that each country completely specializes in the production of the good in which it has a comparative advantage, producing only that good. In this case, the country that produces jeans will produce ______million pairs per week, and the country that produces rye will produce _______million bushels per week.

In the following table, enter each country's production decision on the third row of the table (marked “Production”).

Suppose the country that produces jeans trades 14 million pairs of jeans to the other country in exchange for 42 million bushels of rye.

In the following table, select the amount of each good that each country exports and imports in the boxes across the row marked “Trade Action,” and enter each country's final consumption of each good on the line marked “Consumption.”

When the two countries did not specialize, the total production of jeans was 18 million pairs per week, and the total production of rye was 52 million bushels per week. Because of specialization, the total production of jeans has increased by ______million pairs per week, and the total production of rye has increased by______million bushels per week.

Because the two countries produce more jeans and more rye under specialization, each country is able to gain from trade.

Calculate the gains from trade—that is, the amount by which each country has increased its consumption of each good relative to the first row of the table. In the following table, enter this difference in the boxes across the last row (marked “Increase in Consumption”).

	Bellissima		Felicidad
	Jeans	Rye	Jeans	Rye
	(Millions of pairs)	(Millions of bushels)	(Millions of pairs)	(Millions of bushels)
Without Trade
Production	6	36	12	16
Consumption	6	36	12	16
With Trade {Exports 14 or Imports 14} {Exports 42 or Imports 42 }{ Exports 14 or Imports 14 }{Exports 42 or Imports 42}
Production
Trade action
Consumption
Gains from Trade
Increase in Consumption

Answer 1

Bellissima's opportunity cost of producing 1 pair of jeans is 12/6= 2 bushels of rye and Felicidad's opportunity cost of producing 1 pair of jeans is 16/4 =4 bushels of rye. Because Bellissima has a lower opportunity cost for the production of jeans. Therefore, Bellissima has a comparative advantage in the production of jeans and Felicidad has a comparative advantage in the production of rye.

Suppose that each country completely specializes in the production of the good in which it has a comparative advantage , producing only that good . In this case,the country that produces jeans i.e Bellissima  will produce (4)(6) = 24 million pairs per week And the country that produces rye i.e Felicidad will produce 4(16)=64 million bushels per week.

Suppose the country that produces corn trades 14 million pairs of jeans to the other country in exchange for 42 million bushels of rye.

		BELLISSIMA		FELICIDAD
		Jeans (millions of pairs)	Rye (Millions of bushels)	Jeans (Millions of pairs)	Rye (Millions of bushels)
Without trade	Production	6	36	12	16
	Consumption	6	36	12	16
With Trade	Production	24	0	0	64
	Trade action	Export 14	Import 42	Import 14	Export 42
	Consumption	(24-14)=10	42	14	(64-42)=22
Gains from trade	Increase in consumption	(10-6)=4	(42-36)=6	(14-12)=2	(22-16)=6

When the two countries did not specialize ,the total production of jeans was 18 million pairs per week and the total production of rye was 52 millions bushels per week. Because of specialization ,the total production of jeans was 24 million pairs per week and total production of rye was 64 million bushels per week. This implies that because of specialization , total production of jeans has increased by (24-18)=6 million pairs per week and total production of rye has increased by (64-52)=12 million bushels per week.