Question

The data in the table below assume that with the same quantity of resources, both Australia and Philippines produce food and computers. Australia can make 1,000 computers or 2,000 units of food a day, and Philippines can make 200 computers or 1,200 units of food in a day.

Amount Produced of Each Good per Day per Country
	Computers	Food
Australia	1,000	2,000
Philippines	200	1,200

1. Illustrate the production possibilities (PPC) for both countries

2. Which country has an absolute advantage in the production of both goods? Why?

3. Which country has a comparative advantage in computers production? Explain.

4. Which country should specialize in computers production? Explain.

5. Which country has a comparative advantage in food production? Explain.

6. Which country should specialize in food production? Explain.

Chapter 2: Opportunity Cost, Comparative Advantage, and Specialization
Absolute Advantage versus Comparative Advantage

Illustration

In the U.S., a worker can produce per day 8 units of wheat or 4 units of cloth.
In India, a worker can produce per day 4 units of wheat or 3 units of cloth.

Looking at this example, the U.S. has an absolute advantage-greater productivity- in producing both wheat and cloth. Since one worker can produce more of either good in the U.S. than in India, the U.S. is the more efficient producer of both goods. It might seem that since the U.S. is the more efficient producer of both goods, there would be no need for trade with India. But Absolute Advantage is not the critical consideration.

What matters in determining the benefits of international trade is Comparative Advantage (lower opportunity cost). For example, the opportunity cost (O.C.) of producing wheat is what must be given up in cloth using the same resources, vice-versa.
Since one U.S. worker can produce 8 units of wheat or 4 units of cloth, if we take a worker from cloth production and move him to wheat production, we gain 8 units of wheat and lose 4 units of cloth. So the opportunity cost of producing 1 unit of wheat is 4/8 or ½ (0.50) unit of cloth.
Applying the same thinking to India, we find that one worker can produce 4 units of wheat or 3 units of cloth. So, the O.C of producing 1 unit of wheat in India is ¾ (0.75).

Applying the same argument, 2 units of wheat must be given up in the U.S. to produce 1unit of cloth; 1.33 units of wheat must be given up in India to produce 1 unit of cloth.

To make it easy to understand, let’s use dollar amount:

To produce 1 unit of wheat it costs: the U.S. $0.50 and India $0.75
To produce 1 unit of cloth it costs: the U.S. $2 and India $1.33

Clearly the figures show that the U.S. has a comparative advantage (least cost) in producing wheat and India has a comparative advantage (least cost) in producing cloth.

So, on the basis of comparative advantage, India will specialize in cloth production and the U.S. will specialize in wheat production. The two countries will then trade with each other to satisfy the domestic demand for both goods.

Answer 1

1. The Production Possibility Curve of the above scenario is as follows:

The table given is as follows:

Amount produced of each good per day per country
	Computers	Food
Australia	1,000	2,000
Philippines	200	1,200

2. Looking at the table, we can see that Australia has an absolute advantage in producing both computers and food. Since amount of either computers or food produced by Australia are more than amount of either goods produced by Philippines in a day, it has absolute advantage.

3. Comparative Advantage means the ability of a country to produce a good or service with less opportunity cost than its trading partners. E.g., what amount of food will be given up to produce computers given the same resources is called opportunity cost and vice versa.

Since Australia can produce either 1000 units of computers or 2000 units of food in a day, if we produce just computers in a day we will have to sacrifice 2000 units of food and gain 1000 units of computers. So the opportunity cost of producing 1 unit of computer is 2000/1000 i.e., 2 units of food.

Similarly, in Philippines opportunity cost of producing 1 unit of computer is 1200/200 i.e., 6 units of food.

Similarly, Australia's opportunity cost of producing 1 unit of food is 1000/2000 i.e., 0.5 units of computers.

And, Philippines's opportunity cost of producing 1 unit of food is 200/1200 i.e., 0.17

To make it concise we can say that:

1. 1 unit of computers cost : Australia $2 and Philippines $6

2. 1 unit of food cost: Australia $0.5 and Philippines $0.17

So it's visible that Australia has comparative advantage in producing computers and Philippines has comparative advantage in producing food as Australia incur less cost in producing computers and Philippines has less cost in producing food.

Thus Australia will specialise in producing computers and Philippines will specialise in producing food. This will result in trade off between these countries of these goods accordingly.

4. As we have read in previous answer that Australia has comparative advantage in producing computers. So it will specialise in producing computers because it will incur less cost in producing computers than Philippines (as shown above).

5. As we have seen in answer 3, that Philippines specialise in food production as it has comparative advantage in producing wheat over Australia.

The reason being less cost incurred by Philippines in producing wheat as shown above.

6. Because, Philippines has comparative advantage in producing food. It will be specialising in producing food. As shown above, it is incurring less cost compared to Australia.