Table 3-5 Assume that England and Spain can switch between producing cheese and

Question

Table 3-5 Assume that England and Spain can switch between producing cheese and producing bread at a constant rate. Labor Hours Needed to Make 1 Unit of Number of Units Produced in 40 Hours Bread 4 Bread 10 Cheese England Spain 40 10 4 Refer to Table 3-5. If England and Spain each spends all its time producing the good in which it has a comparative advantage and the countries agree to trade 2 units of bread for 6 units of cheese, then England will consume a. 34 units of cheese and 12 units of bread and Spain will consume 6 units of cheese and 3 units of bread. b.34 units of cheese and 12 units of bread and Spain wil consume 16 units of cheese and 3 units of bread c. 34 units of cheese and 2 units of bread and Spain will consume 16 units of cheese and 3 units of bread d. 34 units of cheese and 2 units of bread and Spain will consume 6 units of cheese and 3 units of bread.

Explanation / Answer

Option (d).

We first compute Opportunity Cost (OC) as follows.

For England,

OC of Cheese = 10/40 = 0.25 Bread

OC of Bread = 40/10 = 4 Cheese

For Spain,

OC of Cheese = 5/10 = 0.5 Bread

OC of Bread = 10/5 = 2 Cheese

Since England can produce Cheese at a lower OC than Spain can (0.25 < 0.5), England has comparative advantage in Cheese and Spain has comparative advantage in Bread. Therefore, England will produce 40 Cheese and Spain will produce 5 Bread. With the given terms of trade, England will export 6 Cheese and import 3 Bread, while Spain will export 3 Bread and import 6 Cheese. Therefore, England will consume (40 - 6) = 34 Cheese & 2 Bread, and Spain will consume (5 - 2) = 3 Bread & 6 Cheese.

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