Question

Assume both Atlantis and Zanadu produce helmets and baseballs. Using equal amounts of resources, Atlantis can produce 100 helmets or 200 baseballs, whereas Zanadu can produce 100 helmets or 400 baseballs.

(a) Assume both Atlantis and Zanadu experience constant opportunity costs in producing helmets and baseballs. Draw a correctly labeled graph illustrating the production possibilities curves (PPCs) for Atlantis and Zanadu, showing helmets on the horizontal axis and baseballs on the vertical axis. Plot the numerical values provided above on your graph.

(b) Calculate the opportunity cost of one helmet for Atlantis. Show your work.

(c) Which country has an absolute advantage in the production of baseballs?

(d) Which country has a comparative advantage in the production of baseballs? Explain.

(e) If Atlantis and Zanadu specialize based on comparative advantage and trade, would they be able to gain from trade if the terms of trade are 1 helmet for 3 baseballs? Explain.

Answer 1

b) Atlantis can produce 100 helmets or 200 baseballs

The opportunity cost of producing 1 helmet for Atlantis = 200/100 = 2 baseballs

c) Zanadu can produce a higher number of baseballs using the same resources. Therefore, Zanadu has an absolute advantage in the production of baseballs

d) The opportunity cost of producing 1 baseball for Atlantis = 100/200 = 0.5 helmets

The opportunity cost of producing 1 baseball for Zanadu = 100/400 = 0.25 helmets

As the opportunity cost of producing baseballs is lower for Zanadu, Zanadu has a comparative advantage in the production of baseballs.

e) Terms of trade = 1 helmet for 3 baseballs.

The opportunity cost of 1 helmet for Atlantis = 2 baseballs

The opportunity cost of 1 helmet for Zanadu = 4 baseballs

As the terms of trade lie between the opportunity costs of the given economies, the terms of trade are beneficial and both the economies gain from trade.