Question

8. Explain how a mutually beneficial trade is possible in a two-country two-good model even when one of the countries has absolute advantage in the production of both the commodities.

Answer 1

let suppose there are two country nation 1 and nation 2. If nation 1 has an absolute advantage in the production of two goods, but if the nation has more the opportunity cost of producing good1 then the opportunity cost of importing. Nation 1 should import good 1 and should focus on producing good 2 that scenario called is comrative advantage. comparative advantage means a party to produce a specialize good at a lower marginal and opportunity cost over another. Even if one country has an absolute advantage in all goods than another. from this both countries will still gain by trading with each other.

For example, consider again Country A and Country B in. The opportunity cost of producing 1 unit of clothing is 2 units of food in Country A, for Country B opportunity cost of producing 0.5 unit of clothing is 1 units of food . Country A has an absolute advantage in both food and clothes. but the opportunity cost of producing clothing is lower in Country B than in Country A and the opportunity cost of producing food is lower in Country A than in Country B . It means Country B has a comparative advantage in clothing (specialize good ) and  Country A has a comparative advantage in food ( specialize good).The countries will gian by trading each other of specialize good.