AP Macroeconomics and Regular Economics

Comparative Advantage

(courtesy of Mr. Mayer)

• Joe Smith started the day early having set his alarm alarm clockclock (MADE IN JAPANMADE IN JAPAN) for 6 a.m.

• While his coffeepotcoffeepot (MADE IN CHINAMADE IN CHINA) was perking, he shaved with his electric razorelectric razor (MADE IN HONG KONGMADE IN HONG KONG).

• He put on a dress shirtdress shirt (MADE IN SRI LANKA)(MADE IN SRI LANKA), designer jeans (MADE IN SINGAPORE)designer jeans (MADE IN SINGAPORE) and tennis tennis shoesshoes (MADE IN KOREAMADE IN KOREA).

• After cooking his breakfast in his new electric skilletelectric skillet (MADE IN INDIAMADE IN INDIA) he sat down with his calculatorcalculator (MADE (MADE IN MEXICO) IN MEXICO) to see how much he could spend today.

• After setting his watch watch (MADE IN (MADE IN TAIWAN ) TAIWAN ) to the radioradio (MADE IN INDIA)(MADE IN INDIA) he got in his carcar (MADE IN (MADE IN GERMANY)GERMANY) filled it with GASGAS from Saudi Arabia Saudi Arabia & continued his search for a good paying AMERICAN JOBAMERICAN JOB..

• At the end of yet another discouraging and fruitless day checking his computercomputer (MADE IN MALAYASIA) (MADE IN MALAYASIA), , Joe decided to relax for a while.

• He put on his sandals (MADE IN BRAZIL)sandals (MADE IN BRAZIL) poured himself a glass of wine wine (MADE IN FRANCE)(MADE IN FRANCE) and turned on his TVTV ((MADE IN INDONESIAMADE IN INDONESIA)), and then wondered why he can't find a good paying job in America.....

People always argue….

• Is trading with countries a good thing???• What’s to be gained if we trade????

Ricky Ricardo

• Lucy’s Cuban-American husband drumming on the bongo.

David Ricardo

• English economist responsible for promoting comparative advantage as the basis of trade. No relation to Ricky Ricardo.

Absolute Advantage v. Comparative Advantage

• Absolute Advantage– Individual – exists when a person can

produce more of a certain good/service than someone else in the same amount of time.

– National- exists when a country can produce more of a good/service than another country can in the same time period.

• Comparative Advantage– Individual/National- exists when an individual

or nation can produce a good/service at a lower opportunity cost than can another individual or nation

Specialization

• Individuals and Countries can be made better off if they will produce in what they have a comparative advantage and then trade with others for whatever else they want/need.

Example

• Assume David Ricardo and Ricky Ricardo are going to throw a party in exactly one hour. They decide on serving homemade pizzas and cakes. Assume they have like 15 ovens in their apartment and lots of pots and pans. Use the information in the next slide to determine who should produce what.

ExampleDavid Ricardo

Ricky Ricardo

Bake Cakes

2 cakes/hr. 4 cakes/hr.

Make Pizza 6 pizzas/hr.

8 pizzas/hr.

ExampleDavid Ricardo

Ricky Ricardo

Bake Cakes

2 cakes/hr. 4 cakes/hr.

Make Pizza 6 pizzas/hr.

8 pizzas/hr.

Who has the absolute advantage in baking cakes?Who has the absolute advantage in making pizza?

ExampleDavid Ricardo

Ricky Ricardo

Bake Cakes

2 cakes/hr. 4 cakes/hr.

Make Pizza 6 pizzas/hr.

8 pizzas/hr.

Why?Well, because 4 cakes>2 cakes & 8 pizzas>6 pizzas.

ExampleDavid Ricardo

Ricky Ricardo

Bake Cakes

2 cakes/hr. 4 cakes/hr.

Make Pizza 6 pizzas/hr.

8 pizzas/hr.

Who has the comparative advantage in baking cakes?Who has the comparative advantage in making pizza?

Example

Who has the comparative advantage in baking cakes?Who has the comparative advantage in making pizza?

Example

Why?Ricky only gives up 2 pizzas in order to bake a cake, whereas David gives up 3 pizzas in order to bake a cake.

Example

Furthermore, it only cost David 1/3 of a cake to make a pizza, whereas it costs Ricky ½ of a cake to make a pizza.