Question

Show that mutually beneficial trade between two nations can be based on increasing economies of scale, even if they are identical in every respect

Answer 1

When two nations have increasing economy of scale, then with increase in production, will decrease the average total cost for each nation. It means that with specialization of production and focusing on one particular product, will give lowest average total cost for each nation. It will make them trade with each other so that they can get the product of each other at lower cost. It will make their trade to be beneficial for each other.

For example:

Nation A & B have 1000 units of work hours and both nations produce shoes & mobile.

Nation A, utilizes 500 work hours to produce 100 shoes and another 500 work hours are used to produce 50 mobile.

But, nation B, utilizes 500 work hours to produce 70 shoes and another 500 work hours are used to produce 100 mobile.

Though, with specialization, nation A produces 300 shoes in 1000 hours and nation B produces 150 mobiles.

It means that ATC for shoes and mobile has come down significantly for both the nations and now they trade with each other to maximize their benefits.