No Free Lunch: Economics for a Fallen World: Third Edition, Revised

Chapter Fifteen: Issues in International Economics 369 costs are reversed for each country. Do NOT think that will always be the case; in fact, it is simply because of the initial production possibilities we assumed (since the ratio of two to three is the same as the ratio of four to six). Different numbers would have caused a different result. Taiwan is the lowest opportunity cost producer of iPads, and therefore has a comparative advantage in iPad production, in addition to their absolute advantage. You may say, “so what?” Well, there are gains from trade to be had, there is money on the table, and opportunity is knocking! Because there are differences in opportunity costs, each country will have a comparative advantage. If the U.S. specializes in food, and Taiwan specializes in iPads, we can produce more of each and engage in mutually beneficial trade that will leave both countries better off. Let’s see that in action by looking at their PPF. Assume (however unrealistic) that Taiwan only has 20 million workers, while the U.S. has 50 million workers. We don’t know at what ratio they will exchange iPads for food—it really depends on the two parties’ negotiating skills. What we do know is that if they can agree to trade at any ratio between .67i < 1F < 1.5i, both parties will be better off. Let’s assume they agree to trade at a ratio of one unit of food for one iPad. Let’s see what it does to each country’s consumption possibilities. With Taiwan, they can produce either 120 million iPads or 80 million units of food a day—or any linear combination of the two along their PPF. But by specializing in the production of iPads according to their comparative advantage, they could trade some of those iPads for additional units of food. As we can see in Figure 15.2 , trading at a 1:1 ratio of food for iPads will allow Taiwan to consume anywhere along the dashed line, which is greater than it could consume if it relied only upon its own production. Also note that the difference between its PPF and consumption possibilities gets greater and greater as Taiwan decides to consume more food. This should make sense since Taiwan is relatively less efficient at producing food compared to producing iPads. If you are a consumer in Taiwan, you want free trade! The situation is roughly the same with the U.S. As you can see in Figure 15.3 , the U.S. can also trade some of its food Figure 15.3, U.S. Production Possibility. The U.S. can produce either 100 million iPads, 150 million units of food daily, or any linear combination between the two as they reallocate production between the two goods (U.S.’s PPF). But by specializing in the production of food, the U.S. could trade some of their food to Taiwan for iPads (assumed at a one-for- one ratio), which expands their consumption possibilities beyond their PPF. They, too, then can consume more of each good with trade! iPads Food 100 150 50 100 150 50 U.S.’s Consumption Possibilities with Trade U.S’s PPF Figure 15.2, Taiwan’s Production Possibility Frontier (PPF) and Consumption Possibilities. Taiwan can produce either 120 million iPads, 80 million units of food daily, or any linear combination between the two as they reallocate production between the two goods (Taiwan’s PPF). But by specializing in the production of iPads, they could trade some of their iPads to the U.S. for units of food (assumed at a one-for-one ratio), which expands their consumption possibilities beyond their PPF. They can thus consume more of each good with trade! iPads Food 100 100 50 50 Taiwan’s PPF Taiwan’s Consumption Possibilities with Trade