Microeconomics — International Trade

💡 Explanation:

The principle of comparative advantage:

• Each economy specializes in the good in which it has a comparative advantage (lower cost)
• Total production grows
• The economies exchange goods
• Both can consume more than they could before trade!

✓ The claim is correct!

Even a country with an absolute advantage in everything gains from trade!

Why? Because it has a comparative advantage in only one good. It is beneficial for it to specialize in that good and trade.

Example: A doctor who is also good with computers - it is still beneficial for them to specialize in medicine and pay a technician.

💡 Explanation:

Terms of trade = how many units of Y are received in exchange for one unit of X (or vice versa).

Example: A ratio of 1X = 3Y means that for one car you receive 3 tons of wheat.

The terms of trade determine how the gains from trade are divided between the parties.

💡 Explanation:

Rule: The terms of trade must be between the costs of the two economies.

Economy A: cost of X = 2Y (lower bound)
Economy B: cost of X = 5Y (upper bound)

Range: 2Y < ratio < 5Y

Why?

• Economy A will gain only if it receives more than 2Y for each X
• Economy B will gain only if it pays less than 5Y for each X

💡 Explanation:

In trade between two economies:

• The terms of trade are determined by negotiation
• The range: between the cost of the exporter and the cost of the importer
• The final ratio depends on the bargaining power of each side

💡 Explanation:

In trade with a world market:

• The terms of trade are given in advance
• A small economy does not affect the ratio
• The economy only needs to decide what to export and what to import

💡 Explanation:

The trade line:

• Shows all possible consumption combinations after trade
• Its slope = the world terms of trade
• Allows consumption outside the original PPF!

This is the gain from trade - consumption possibilities that were not possible before.

💡 Explanation:

The purpose of specialization:

• Each economy focuses on what it is relatively efficient at
• Total production grows
• Both sides can consume more

This is a win-win situation!

💡 Explanation:

Range: 3Y < ratio < 6Y

Checking the answers:

• 1X = 2Y → Not in range (below 3)
• 1X = 4Y → In range! (between 3 and 6) ✓
• 1X = 7Y → Not in range (above 6)
• 1X = 3Y → Not beneficial for A (exactly on the boundary)

💡 Explanation:

Computing costs of X:

• Economy A: 200/100 = 2Y ← lower!
• Economy B: 320/80 = 4Y

Comparative advantage in X: Economy A

Range: 2Y < ratio < 4Y

💡 Explanation:

Before trade:

If Economy A produces 50X instead of Y, it gives up: 50 × 2 = 100Y

After trade:

Economy A sells 50X and receives: 50 × 3 = 150Y

The gain:

150Y - 100Y = 50Y gain!

💡 Explanation:

Before trade:

If Economy B produces 60X, it gives up: 60 × 4 = 240Y

After trade:

Economy B buys 60X and pays: 60 × 3 = 180Y

Saving in Y: 240 - 180 = 60Y

The gain in units of X:

60Y ÷ 4Y = 15X gain!

💡 Explanation:

Computing costs of a car:

• A: 100/50 = 2 tons of wheat ← lower!
• B: 200/40 = 5 tons of wheat

Comparative advantage:

• Country A - advantage in cars
• Country B - advantage in wheat

A specializes in cars, B specializes in wheat

✓ The claim is correct!

If the terms of trade = the economy's cost:

• The economy receives exactly what it would have produced itself
• No gain from trade
• The economy is indifferent between trading and producing itself

Therefore the terms of trade must be strictly inside the range, not at the boundaries!

💡 Explanation:

Before specialization:

• Total X: 50 + 40 = 90
• Total Y: 100 + 160 = 260

After specialization:

• Economy A: 100X, 0Y
• Economy B: 0X, 320Y
• Total: 100X, 320Y

The gain:

X: 100 - 90 = +10
Y: 320 - 260 = +60

💡 Explanation:

Example:

Cost of X: A = 2Y, B = 4Y

Range: 2Y < ratio < 4Y

• If ratio = 3.8Y → close to B's cost → A gains more
• If ratio = 2.2Y → close to A's cost → B gains more

The further the ratio is from your cost, the more you gain!

💡 Explanation:

Comparison:

• Cost of X in the economy = 3Y
• World ratio = 5Y

3Y < 5Y

It is beneficial to export X!

Why? The economy produces X at a cost of 3Y and sells it on the world market for 5Y. A gain of 2Y per X!

💡 Explanation:

Comparison:

• Cost of X in the economy = 6Y
• World ratio = 4Y

6Y > 4Y

It is beneficial to import X!

Why? Producing X domestically costs 6Y, but buying it on the world market costs only 4Y. A saving of 2Y per X!

💡 Explanation:

Check: Cost of X in economy = 160/80 = 2Y < 4Y (world ratio)

→ It is beneficial to export X!

Specialization: The economy produces 80X

Sale on world market:

80X × 4Y = 320Y

The gain: 320Y - 160Y = 160Y additional!

💡 Explanation:

Check: Cost of X in economy = 180/60 = 3Y > 2Y (world ratio)

→ It is beneficial to import X (export Y)!

Specialization: The economy produces 180Y

Purchase on world market:

180Y ÷ 2Y = 90X

The gain: 90X - 60X = 30X additional!

💡 Explanation:

Check:

• Cost of X in economy = 400/100 = 4Y
• World ratio = 4Y

The ratios are equal!

The economy is indifferent between trading and producing itself.

No gain from trade.

💡 Explanation:

Check without trade:

• Cost of X = 200/50 = 4Y
• To produce 20X → must give up 20×4 = 80Y
• Remaining: 200 - 80 = 120Y ✓

Possible even without trade! But...

With trade:

• World ratio = 5Y > 4Y (local cost)
• It is beneficial to export X
• Possible to consume more than (20, 120)

💡 Explanation:

The trade line:

• Starts from the specialization point (e.g. X_max, 0)
• Its slope = the world terms of trade
• Shows all possible consumption combinations

If the ratio = 4Y per X, the slope = -4 (we lose 4Y for each X).

💡 Explanation:

Check: Cost of X = 80/40 = 2Y < 3Y → It is beneficial to export X ✓

Starting point: (40, 0) - full specialization in X

Y_max with trade: 40 × 3 = 120

Trade line equation:

Y = 120 - 3X

(starts at 120Y when X=0, decreases by 3Y for each X)

⚠️ The claim is not always correct!

The trade line is above the PPF only if:

• The world terms of trade differ from the local cost
• There is a gain from trade

If the world ratio = local cost:

• The trade line coincides with the production possibility curve
• No gain from trade

💡 Explanation:

Before trade: Y_max = 200

After trade:

• The economy specializes in X (because 2Y < 5Y)
• Produces 100X
• Sells on the world market: 100 × 5 = 500Y

The gain:

500 - 200 = 300Y gain!

💡 Explanation:

Costs of X:

• A: 400/200 = 2Y
• B: 500/100 = 5Y

World ratio = 3Y

• Economy A: 2Y < 3Y → gains from exporting X
• Economy B: 5Y > 3Y → gains from importing X

Both gain!

💡 Explanation:

Check: Cost of X = 120/60 = 2Y < 3Y → export X

Strategy:

1. The economy produces 60X
2. Keeps 30X for itself
3. Exports 30X
4. Receives: 30 × 3 = 90Y ✓

It must export 30X

💡 Explanation:

Check: Cost of X = 160/80 = 2Y < 4Y → export X

Feasibility check:

1. The economy produces 80X
2. Keeps 20X for itself
3. Exports 60X
4. Receives: 60 × 4 = 240Y ✓

Yes, possible! (20X, 240Y)

💡 Detailed explanation:

Costs of X:

• A: 240/120 = 2Y ← lower
• B: 300/60 = 5Y

Comparative advantage:

• Economy A - advantage in X
• Economy B - advantage in Y

Specialization:

• A specializes in X
• B specializes in Y

Range of terms of trade:

2Y < ratio < 5Y