Suppose there are only two countries in the world Jordan and Lebanon with equal population. Jordan...

Suppose there are only two countries in the world Jordan and Lebanon with equal population. Jordan can produce by all of its resources 50 units of wheat, while Lebanon can produce by all of its resources 80 units of wheat. Jordan can produce by all of its resources 25 units of cloths, while Lebanon can produce by all of its resources 30 units of cloths.

(a) Which country has the absolute advantage in wheat and which country has the absolute advantage in cloths?

(b) Which country has the comparative advantage in wheat and which country has the comparative advantage in cloths?

(c) What are the limits to the terms of trade for wheat and the terms of trade for cloths?

Expert Solution

a) Lebanon has the absolute advantage in the production of wheat because they can produce greater units compared to Jordan with all of its resources .Lebanon has the absolute advantage in the production of cloth also. Because Jordan has produced only 25 units with all of its resources... But Lebanon has produced 30 units . So they have the absolute advantage in both cloth and wheat.

b) Lebanon has the comparitve advantage in the production of wheat... And in the case of Jordan the ccomparutive advantage in the production of cloth.( Lebanon has the absolute advantage in two products but compared to Jordan the relative advantage is greater in the case of wheat... So they specialised in the production of wheat and in the case of Jordan, they have absolute didisadvantage in both goods but compared to Lebanon, the comparative advantage of Jordan is in cloth)

c) the limits to the terms of trade is determined by the opportunity cost of producing what and cloth. Here Jordan's opportunity cost of wheat = 80/50 and the opportunity cost of cloth is 50/25. Similarly the opportunity cost of Lebanon for wheat is 30/25 and for cloth is 80/30...on the basis opportunity cost ( next best alternative forgone) each country can produce or specialise in any one product and exchange to another country for better terms of trade.

Rahul Sunny answered 9 months ago

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