Question

The price of good X in country A is $3; the price of the same good in country B, once the nominal exchange rate has been taken into account, is also $3. The price of good Y in country A is $2, while the price of the same good in country B, once the nominal exchange rate has been taken into account, is $3.

a.) Which country has absolute advantage in what? Which country has comparative advantage in what? Provide a brief explanation of your answers.

b.) Suppose that a very aggressive marketing policy in country B substantially increases the relative demand of good X in terms of good Y in country B (and not in country A). Could this in itself produce a reversal of comparative advantage between country A and country B?

Answer 1

a) country A has absolute advantage in production of y because its price is low in country A than in B.

country A has comparative advantage in production of X because the opportunity cost of producing it is lower in country A than in B.

country B has a comparative advantage in production of Y because the opportunity cost of producing it is lower in country B than in A.

b)  if a very aggressive marketing policy in country B substantially increases the relative demand of good X in terms of good Y in country B (and not in country A) then  this in itself produce a reversal of comparative advantage between country A and country B because the relative price of X will increase in country B.