Question

Assume that Tibet and Nepal produce yaks and buffalo. The production possibilities are given below. All production units are in millions. Assume that before the countries specialize and trade, that Tibet is producing at Production Possibilities B and that Nepal is producing at Production Possibilities D. Further assume that they recognize the benefits of free trade and that they decide to trade 1 yaks for 33 buffalo. Determine which country is producing yaks, and which country is producing buffalo. Now, use the blank chart below to calculate the Gains from Trade for each country. The gains from trade are

TIBET
Production Possibilities	A	B	C	D	E	F
Product
Yaks	0	4	8	12	16	20
Buffalo	40	32	24	16	8	0
NEPAL
Production Possibilities	A	B	C	D	E	F
Product
Yaks	0	3	6	9	12	15
Buffalos	60	48	36	24	12	0

	Before	Specialized	The	After	Gain
	Trade	Production	Trade	Trade	from Trade
TIBET
Yaks
Buffalo
NEPAL
Yaks
Buffalo

	A.	Tibet will lose 1 yak and gain 2 buffalo, and Nepal will lose 1 yak and gain 2 buffalo
	B.	Tibet will gain 5 yaks and 1 buffalo, and Nepal will gain 2 yaks and 3 buffalo
	C.	Tibet will gain 2 yaks and 3 buffalos, and Nepal will gain 5 yaks and 1 buffalo
	D.	Tibet will gain 0 yaks and 1 buffalo, and Nepal will gain 2 yaks and 3 buffalos
	E.	Tibet will gain 5 yaks and lose 1 buffalo, and Nepal will gain 2 yaks and lose 3 buffalo

Answer 1

Solution:

For Tibet, as the production of Yaks increase by 4, Buffalo production decrease by 8. So, opportunity cost of producing a yak is (8/4 =) 2 buffaloes.

Similarly, for Nepal, as the production of Yaks increase by 3, Buffalo production decrease by 12. So, opportunity cost of producing a yak is (12/3 =) 4 buffaloes.

Clearly, the opportunity cost of yak production is lower for Tibet than Nepal (2 buffaloes < 4 buffaloes). So, as per the specialization, Tibet would produce only yaks, while Nepal will produce only buffaloes. So, total buffaloes produced would be 60 buffaloes and total yak production would be 20 yaks.

Initial production levels are: For Tibet, yak production was 4, buffalo production was 32. For Nepal, yak production was 9, buffalo production was 24.

With trade of 1 yak for 3 buffaloes, if Tibet keeps 9 yaks, and trade the rest (20 - 9 =) 11 yaks, it will get (11*3 =) 33 buffaloes in return. With similar form, Nepal will be giving 33 buffaloes, so will have (60 - 33 =) 27 buffaoes retained for itself. Also, it will have 11 yaks for itself (due to exchange).

Thus, gain for Nepal is: buffaloes = 27 - 24 = 3 buffaloes, yaks = 11 - 9 = 2 yaks.

And gain for Tibet is: buffaloes = 33 - 32 = 1 buffalo, yaks = 9 - 4 = 5 yaks.

Thus, the correct option is (B).