Economics: Absolute and Comparative Advantage
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Questions and Answers

What defines absolute advantages?

  • The ability to trade goods without any barriers.
  • The ability to produce goods at a lower opportunity cost than others.
  • The ability to produce goods at a higher financial cost but with better quality.
  • The ability to produce more of a good or service with the same amount of resources than others. (correct)

If one country is more efficient than another in producing both products, they will not trade with each other.

False (B)

In the given example, which product has a comparative advantage for the domestic country?

Neither cheese nor wine

Ricardo's model is based on the amount of ___ required to produce a product.

<p>labor</p> Signup and view all the answers

What is a characteristic of Ricardo's model?

<p>Cost of a product depends on the amount of labor required to produce it. (C)</p> Signup and view all the answers

The domestic country has an absolute advantage if it can produce more with the same resources.

<p>True (A)</p> Signup and view all the answers

What is the opportunity cost ratio of cheese produced in the domestic country?

<p>1:1</p> Signup and view all the answers

Match the following terms with their definitions:

<p>Absolute Advantage = Producing more using the same resources Comparative Advantage = Lower opportunity cost in production Ricardo's Model = Focuses on labor productivity Trade Specialization = Countries exporting goods they produce efficiently</p> Signup and view all the answers

What is the opportunity cost of wine in terms of cheese for the domestic country?

<p>3 kg of cheese per liter of wine (D)</p> Signup and view all the answers

Smith's and Ricardo's models of international trade both advocate for specialization and trade to increase efficiency and welfare.

<p>True (A)</p> Signup and view all the answers

According to Ricardo’s theory, what is a reason for trade between two countries?

<p>Differences in relative productivity</p> Signup and view all the answers

Ricardo's trade model assumes ____________ in addition to full employment.

<p>perfect competition</p> Signup and view all the answers

What are the limitations of classical international trade theories?

<p>All of the above (D)</p> Signup and view all the answers

Match the following international trade concepts with their descriptions:

<p>Comparative Advantage = Trade based on differences in relative productivity Absolute Advantage = Ability to produce more of a good with the same resources Reciprocal Demand = Mutual willingness to trade based on demand</p> Signup and view all the answers

Free trade, full employment, and perfect competition are assumptions in Ricardo's model of international trade.

<p>True (A)</p> Signup and view all the answers

What is the primary reason behind trade according to Ricardo’s theory?

<p>Differences in relative productivity</p> Signup and view all the answers

According to traditional trade theories, ____________ should be disregarded.

<p>transportation costs</p> Signup and view all the answers

Which of the following statements is NOT a common assumption in classical trade theories?

<p>Consumer preferences vary significantly (D)</p> Signup and view all the answers

Flashcards

Absolute Advantage

The ability to produce more of a good or service with the same amount of resources than another producer.

Comparative Advantage

The ability to produce a good or service at a lower opportunity cost than another producer.

Opportunity Cost

The value of the next best alternative that must be given up to obtain something.

Ricardo's Theory

A theory of international trade that says countries should specialize in producing goods they can make efficiently compared to other countries.

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No Trade with Absolute Advantage

If one country is absolutely more efficient at producing all goods, trading might not benefit both.

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Comparative Advantage Example

When the opportunity cost of producing a good is lower for one country than another, even if another country is more efficient at all goods.

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No Comparative Advantage

When the opportunity cost of producing all goods are equal between countries.

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Labor Requirements

Amount of labor needed to produce a unit of a good or service.

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Opportunity Cost of Wine (in Cheese)

The amount of cheese a country must give up to produce one liter of wine.

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Ricardo's Trade Model

A model of international trade based on differences in relative productivity.

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Free Trade

International trade without restrictions like tariffs or quotas.

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Ricardo's Trade Reasons

Trade stems from differences in relative productivity, not absolute advantage.

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Real-World Trade Limitations

Assumptions of classical trade models, such as full employment and perfect competition, are not always met.

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Reciprocal Demand

The interaction of competing demands between trading partners influencing the proportion of trade.

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Assumptions of Ricardo's Model

Free trade, perfect competition, and full employment are key components of Ricardo's model.

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Classical Trade Theories' Limitations

Classical trade theories don't include factors like transportation costs, economies of scale, technology transfer, and other complexities.

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Labor Requirements (Wine/Cheese)

The differing amounts of labor hours needed to produce a unit of wine or cheese.

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Study Notes

Absolute Advantage

  • Absolute advantage describes a country's ability to produce more of a good or service with the same amount of resources than another country.
  • Adam Smith introduced this concept.
  • If one country is more efficient than another at producing all goods, they will still trade according to Ricardo's comparative advantage theory.

Comparative Advantage

  • Comparative advantage occurs when a country can produce a good or service at a lower opportunity cost than another country.
  • Key takeaway for comparative advantage: specialization and trade
  • Opportunity cost is crucial in determining comparative advantage.

Example Calculation: Comparative Advantage

  • If a country's opportunity cost of producing wine and cheese is the same (e.g., 1:1 exchange), it does not have a comparative advantage in either product.

Ricardo's Model Characteristics

  • Ricardo's model emphasizes labor productivity differences as the basis for comparative advantage.
  • The model assumes that the cost of a product depends on the amount of labor required to produce it.
  • A country's relative efficiency in producing different goods is key to trade.

Opportunity Cost Calculation Example

  • Find the opportunity cost (e.g., cheese per liter of wine) by dividing the amount of time required to make one good by the amount of time needed to produce the other good.

Similarities Between Smith and Ricardo Models

  • Both support specialization and trade for increased efficiency and overall welfare.
  • Both assume free trade.
  • Both note that different production capabilities (abilities) drive trade.

Ricardo's Trade Theory Reasoning

  • Trade occurs because of differences in relative productivity, not due to absolute advantages or consumer preferences.

Shortcomings of Classical Trade Theories

  • The assumptions behind these models (e.g., perfect competition) are not realistic in real-world economies.
  • These models largely ignore transportation costs, economies of scale, technology transfers, capital mobility, and protectionist policies.

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Description

This quiz delves into the concepts of absolute and comparative advantage in economics, highlighting the significance of opportunity cost and trade. It explores Adam Smith's introduction of absolute advantage and Ricardo's comparative advantage theory, with calculations that illustrate these principles in real-world contexts.

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