Suppose Big country can produce 80 units of X by using all its resources to produce X or 60 units of Y devoting all its resources to Y. Comparable figures for small Nation are 60 units of X and 60 units of Y. Assuming constant costs, in which product should each nation specialize? Explain why. What are the the limits of the terms of trade between these two countries? How would rising cost (rather than constant costs) affect the extent of specialization and trade between these two countries?

Question

13-12-2019
Business

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Suppose Big country can produce 80 units of X by using all its resources to produce X or 60 units of Y devoting all its resources to Y. Comparable figures for small Nation are 60 units of X and 60 units of Y. Assuming constant costs, in which product should each nation specialize? Explain why. What are the the limits of the terms of trade between these two countries? How would rising cost (rather than constant costs) affect the extent of specialization and trade between these two countries?

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jepessoa jepessoa · Answer 1 · 2019-12-14T04:07:32+01:00

Answer:

1) Big Country should specialize in the production of good X, while Small Nation should specialize in the production of good Y. Big Country can produce 1.33 units of good X for every unit of good Y that it produces, while Small Nation can produce 1 unit of X for every 1 unit of Y it produces. Therefore Big Country has a comparative advantage in the production of good X.

2) Small Nation should be willing to trade 1 unit of good X for 1 unit of good Y, while Big Country should be willing to trade 4/3 of a unit of good X for 1 unit of good Y.

3) If the production costs increase proportionality for both goods, then the country's should keep specializing in their respective productions. If the production costs of good X increases, Big Country may have to change and specialize in producing good Y. Small Nation should produce the good with the lowest costs.