Question

Consider two countries: Nigeria and Taiwan, and two goods: oil and semiconductors. In Nigeria, a barrel of oil costs 5 labor hours to produce, while a pound of semiconductors costs 20 labor hours. In Taiwan, a barrel of oil costs 7.5 labor hours to produce, while a pound of semiconductors costs 15 labor hours.

(a) (7 points) Does any country have an absolute advantage? Why or why not?

(b) (8 points) Which country has a comparative advantage in each school? What will be the country export/import? Justify your answer by computing the relative price of each good in each country.

(c) (7 points) Suppose the international relative price of a pound of semiconductors is 3 barrels of oil. Show how each contry can save on hours of work by trading with each other.

Answer 1

a.

	OIL	SEMICONDUCTOR
NIGERIA	5 LABOUR HOUR	20 LABOUR HOUR
TAIWAN	7.5 LABOUR HOUR	15 LABOUR

From the table above we can see that Nigeria produces oil using lesser labour hour than Taiwan and Taiwan produces semiconductor using lesser amount of labour . Thus Nigeria would have an absolute advantage in oil production and export it to Taiwan, On the other hand Taiwan has an absolute advantage in production of semiconductor and export it.

b. Domestic cost ratio of Nigeria is 5/20 = 0.25 & that of for Taiwan is 7.5/15 = 0.5

Thus as there exist domestic cost differences the countries will have comparative advantage in production.
Nigeria uses (5/7.5*100 =) 66.66 % of taiwan labour to produce 1 unit of oil and (20/15*100 =) 133% of taiwan labour to produce 1 unit of semiconductor.

Taiwan uses (7.5/5*100 =) 150% of Nigerian labour to use 1 unit of oil and uses (15/20*100 =) 75% of Nigerian labour to produce 1 unit of semiconductor.

Hence Nigeria uses lesser labour to produce 1 unit of oil and Taiwan uses lesser labour to produce 1 unit of semiconductor. THUS Nigeria has comparative advantage in production of oil and export to Taiwan and Taiwan has comparative advantage in production of semiconductor and export to Nigeria.

Hence to conclude Nigeria has both absolute and comparative advantage in oil production and Taiwan has comparative and absolute advantage in production of semiconductor.