In: Economics
3. Problems and Applications Q3 Rosa and Alyssa are roommates. They spend most of their time studying (of course), but they leave some time for their favorite activities: making pizza and brewing root beer. Rosa takes 3 hours to brew a gallon of root beer and 2 hours to make a pizza. Alyssa takes 7 hours to brew a gallon of root beer and 5 hours to make a pizza. Rosa's opportunity cost of making a pizza is ? of root beer, and Alyssa's opportunity cost of making a pizza is ? of root beer. ? has an absolute advantage in making pizza, and ? has a comparative advantage in making pizza. If Rosa and Alyssa trade foods with each other, ? will trade away pizza in exchange for root beer. The price of pizza can be expressed in terms of gallons of root beer. The highest price at which pizza can be traded that would make both roommates better off is ? of root beer, and the lowest price that makes both roommates better off is ? of root beer per pizza.
Opportunity cost is the cost of the activity foregone when another activity is selected.
Rosa takes 3 hours to brew a gallon of root beer and 2 hours to make a pizza. Hence Rosa's opportunity cost of making a pizza is 2/3 = 0.66 gallons of root beer,
Alyssa takes 7 hours to brew a gallon of root beer and 5 hours to make a pizza. Alyssa's opportunity cost of making a pizza is 5/7 = 0.71 gallons of root beer.
Since Rosa can make a pizza and can brew root bear both in less time , Rosa has an absolute advantage in making pizza, as well as Root bear. The opportunity cost of pizza is lower for Rosa so Rosa has a comparative advantage in making pizza.
If Rosa and Alyssa trade foods with each other, Rosa will trade away pizza in exchange for root beer.
The highest price at which pizza can be traded that would make both roommates better off is 5/7 or 0.71 gallons of root beer, and the lowest price that makes both roommates better off is 0.66 gallons of root beer per pizza.