3. Consider two nelighboring Island countries called Felicidad and Contente. The

ID: 1164562 • Letter: 3

Question

3. Consider two nelighboring Island countries called Felicidad and Contente. They each have 4 million løbor hours available per month that they can use to produce com, Jeans, or a combination of both. The tollowing table shows t the amount of corn or yeans that can be produced using 1 hour of labor. Corn Jeans Country Felicidad Contente 16 10 Initially, suppose Contente uses 1 million hours of labor per month to produce corm and 3 million hours per month to produce jeans, while Felicoidad uses 3 million hours of labor per month to produce corn and 1 million hours per month to produce jeans. Consequently, Felicidad produces 12 milion bushels of corn and 16 million pairs of jeans, and Contente produces S million bushels of corn and 30 million pairs of jeans. Assume there are no other countries willing to trade goods, so, in the absence of trade between these two countries, each country consumes the amount of corn and jeans it produces Felicidad's opportunity cost of producing 1 bushel of com isof jeans, and Contente's opportunity cost of producing 1 bushel of corn is advantage in the production of jeans. Suppose that each country completely specializes in the production of the good in which it has a comparative advantage, producing only that good. In of jeans. Therefore, has a comparative advantage in the production of corn, and has a comparative this case, the country that produces corn will produce million bushels per month, and the country that produces jeans will produce million pairs per month.

Explanation / Answer

Following is the Output table when both countries use 4 million hours for producing a good.

Corn (Million)

Jeans (Million)

Felicidad

4 x 4 = 16

16 x 4 = 64

Contente

5 x 4 = 20

10 x 4 = 40

(1) Opportunity cost (OC) computed as follows.

In Felicidad, OC of Corn = 64/16 = 4 jeans

In Contente, OC of Corn = 40/20 = 2 jeans

(2) Therefore, Contente has comparative advantage in Corn (because OC of Corn is lower than in Felicidad: 2 < 4). Accordingly, Felicidad has comparative advantage in jeans.

(3)

Country producing Corn (Contente) will produce 20 million Corn. Country producing jeans (Felicidad) will produce 64 million jeans.

(4) Because of specialization,

Production of Corn has increased by 3 million (= 20 million - 17 million).

Production of jeans has increased by 18 million (= 64 million - 46 million).

(5) Contente exports 13 million Corn and imports 39 million jeans. Felicidad exports 39 million jeans and imports 13 million corn.

FELICIDAD

CONTENTE

Corn

Jeans

Corn

Jeans

WITHOUT TRADE:

Prod. & Consumption

WITH TRADE

Production

Trade Action:

Import:

Export:

Import:

13 Corn

39 Jeans

13 Corn

39 jeans

Consumption

64-39=25

20-13=7

GAIN FROM TRADE

Increase in Consumption

13-12=1

25-16=9

7-5=2

39-30=9