Question

Warren Buffett is famous for his investment skill. But he is also somewhat famous for his diet: hamburger and Cherry Coke. So, let’s say those are all we need to have a good life and there are two countries making these two goods. Since Buffett went to school in Lincoln and lives in Omaha, let’s call these two countries Omaha and Lincoln. Both countries are endowed with different level of resources. Omaha has enough resources to produce 50 burgers and 150 Cherry Coke. Lincoln can produce 50 burgers and 100 Cheery Coke.

A. Which country has absolute advantage in production of both goods?

B. Which country has relative advantage in burger and Cherry Coke production?

C. If each country were producing and consuming on their own, they will devote half of the resources to produce each product. How much burgers and Cheery Coke will be produced in both country?

D. Which country will produce Cherry Coke and which will produce burger in specialization?

E. What will be the terms of trade between Cherry Coke and burgers after specialization and how much will each country has for both products?

Answer 1

A). Omaha has absolute advantage in producing Cherry Coke as it produces more Cheery coke than Lincoln.

None of country (Omaha and Lincoln) has absolute advantage in producing burgers because both countries produce equal number of burgers only..

B). Lincoln has relative advantage in producing Cherry coke as it produces 2 cherry coke per burger (100 / 50) in comparison to 3 cherry coke per burger (150 / 50) produced by Omaha.

Omaha has relative advantage in producing burger as it has lower opportunity cost of producing the burger.

D). Lincoln will produce Cherry coke and Omaha will produce burger if both country specialize (decision based on relative advantage in production of product).