Interactive CH 03 Interdependence and The Gains From Trade 9ev2

N.
GREGORY MANKIW NINTH EDITION
PRINCIPLES OF
ECONOMICS
CHAPTER
Interdependence and
3 the Gains from Trade
Interactive PowerPoint Slides by:
V. Andreea Chiritescu
Eastern Illinois University
© 2021 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use as permitted in a
license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use. 1
IN THIS CHAPTER
• Why do people – and nations – choose to
be economically interdependent?
• How can trade make everyone better off?
• What is absolute advantage?
• What is comparative advantage?
• How are these concepts similar?
• How are they different?
license distributed with a certain product or service or otherwise on a password-protected website or school-approved learning management system for classroom use.
2
ASK THE EXPERTS
Trade between China and the United States–1
“Trade with China makes most Americans
better off because, among other advantages,
they can buy goods that are made or
assembled more cheaply in China.”
Source: IGM Economic Experts Panel, June 19, 2012.
3
Interdependence
• Interdependence
– Rely on many people from around the world,
most of whom you’ve never met
• To provide you with the goods and services
you enjoy
• “Trade can make everyone better off”
– One of the Ten Principles from Chapter 1
– We now learn why people – and nations –
choose to be interdependent
– And how they can gain from trade
© 2021 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part, except for use as permitted in a 4
Our example
• Assumptions:
– Two countries: the U.S. and Japan
– Two goods: airplanes and soybeans
– One resource: labor, measured in hours
• We want to determine how much of both
goods each country produces and
consumes:
– If the country chooses to be self-sufficient
– If it trades with the other country
5
EXAMPLE 1: The U.S.
• The U.S. economy has 50,000 labor hours
per month available for production
– Produces only two goods: airplanes and
soybeans
– To produce 1 airplane requires 500 labor
hours
– To produce 1 ton of soybeans requires 10
labor hours
6
EXAMPLE 1: Building the PPF
Employment of
Production
labor hours
Airplanes Soybeans Airplanes Soybeans
A 50,000 0 100 0
B 40,000 10,000 80 1,000
C 25,000 25,000 50 2,500
D 10,000 40,000 20 4,000
E 0 50,000 0 5,000
7
EXAMPLE 1: The U.S. PPF
The U.S. has enough
Airplanes
labor to produce :
100 E
D
80 • 100 airplanes,
C
50
• OR 5,000 tons of
B
20 soybeans,
A
0 1,000 2,500 4,000 5,000 • OR any combination

Soybeans (tons)
along the PPF.
8
EXAMPLE 1: The U.S. without trade
Suppose the U.S. uses
Airplanes
half its labor to produce
100 each of the two goods.
80
C1 U.S. • The U.S. production

50 and consumption
would be: 50 airplanes
20
and 2,500 tons of
0 1,000 2,500 4,000 5,000
soybeans
Soybeans (tons)
9
Active Learning 1: Derive Japan’s PPF
Use the following information to draw Japan’s
PPF:
– Japan has 30,000 labor hours per month
available for production
– Produces only two goods: airplanes and
soybeans
– To produce 1 airplane requires 625 labor hours
– To produce 1 ton of soybeans requires 25 labor
hours
• Your graph should measure soybeans (tons)
on the horizontal axis.
10
Active Learning 1: Answers
Japan has enough
Airplanes labor to produce :
100
• 48 airplanes,
80
50 • OR 1,200 tons of
48
soybeans,
• OR any combination
0 1,200 2,500 4,000 5,000
Soybeans (tons)
along the PPF.
11
Active Learning 1: Japan without trade
Suppose Japan uses
Airplanes half its labor to
100
produce each of the
two goods.
80
50 • Japan’s production
48
C1 Japan and consumption
24 would be: 24
airplanes and 600
0 600 1,200 2,500 4,000 5,000 tons of soybeans
Soybeans (tons)
12
Consumption with and without trade
• Without trade:
– U.S. consumers get 50 airplanes and 2,500
tons of soybeans
– Japanese consumers get 24 airplanes and
600 tons soybeans
• Comparison: consumption without trade vs.
consumption with trade
– We need to see how much of each good is
produced and traded by the two countries
13
Active Learning 2: Production under trade
We continue Example 1 and Active Learning 1, but
this time the two countries will choose different
production points.
A. U.S. produces 3,500 tons of soybeans. How
many airplanes can the U.S. produce with the
remaining resources? Draw this point on the
PPF.
B. Japan produces 48 airplanes. How many tons
of soybeans can Japan produce with the
remaining resources? Draw this point on the
PPF.
14
Active Learning 2A: U.S. production with trade
Airplanes Producing 3,500 tons of

soybeans requires
100
3,500 * 10 = 35,000
labor hours.
• The remaining
P2 U.S.
30 (50,000 – 35,000) =
15,000 labor hours
0 3,500 5,000 are used to produce
Soybeans (tons) 15,000 / 500 = 30
airplanes.
15
Active Learning 2B: Japan’s production with trade
Airplanes Producing 48 airplanes

100
requires all of Japan’s
resources: 48 * 625 =
30,000 labor hours.
P2 Japan
48 • So, Japan would
produce 0 tons of
soybeans.
0 1,200 2,500
Soybeans (tons)
16
Exports and Imports
• Imports
– Goods produced abroad and sold
domestically
• Exports
– Goods produced domestically and sold
abroad
Active Learning 3: Consumption under trade
We continue Active Learning 2, but this time the
two countries will be able to trade: 22 airplanes
for 880 tons of soybeans.
A. The U.S. exports 880 tons of soybeans and
imports 22 airplanes. How much of each good
is consumed in the U.S.? Plot this combination
on the U.S. PPF.
B. Japan exports 22 airplanes and imports 880
tons of soybeans. How much of each good is
consumed in Japan? Plot this combination on
Japan’s PPF.
18
Active Learning 3A: U.S. consumption with trade
airplanes soy
Airplanes
produced 30 3,500
100
+ imported 22 0
– exported 0 880
C2 U.S.
52 = amount
52 2,620
50
C1 U.S. consumed
P2 U.S.
30
0 2,500 3,500 5,000

2,620
Soybeans (tons)
19
Active Learning 3B: Japan’s consumption with
trade
Airplanes
airplanes soy
produced 48 0
100
+ imported 0 880
– exported 22 0
= amount
26 880
48 P2 consumed
26 C2
24
C1
0 600 1,200 2,500

880
Soybeans (tons)
20
Trade makes both countries better off
U.S.
consumption consumption gains from
without trade with trade trade
airplanes 50 52 2
soybeans 2,500 2,620 120
Japan
consumption consumption gains from
without trade with trade trade
airplanes 24 26 2
soybeans 600 880 280
21
Where Do These Gains Come From?
• Absolute advantage:
– The ability to produce a good using fewer
inputs than another producer
• In our example:
– Absolute advantage in soybeans: the U.S.
• Producing 1 ton of soybeans uses 10 labor
hours in the U.S. vs. 25 in Japan
– Absolute advantage in airplanes: the U.S.
• Producing one airplane requires 625 labor
hours in Japan, but only 500 in the U.S.
Where Do These Gains Come From?
The U.S. has an absolute advantage in
both goods!
– So why does Japan specialize in
airplanes?
– Why do both countries gain from trade?
• Two countries can gain from trade
– When each specializes in the good it
produces at lowest cost
Two Measures of the Cost of a Good
• Absolute advantage
– Measures the cost of a good in terms of
the inputs required to produce it
• Another measure of cost: opportunity cost
– The opportunity cost of an airplane =
amount of soybeans that could be
produced using the labor needed to
produce one airplane
Comparative Advantage
• Comparative advantage
– The ability to produce a good at a lower
opportunity cost than another producer
• Principle of comparative advantage
– Each good should be produced by the
individual that has the smaller opportunity
cost of producing that good
Specialize according to comparative
advantage
EXAMPLE 2: Comparative advantage
• The U.S.: produce 1 airplane using 500 labor hours;
produce 1 ton of soybeans using 10 labor hours
• Japan: produce 1 airplane using 625 labor hours;
produce 1 ton of soybeans using 25 labor hours
A. For each country, calculate the opportunity cost of
producing each good.
B. Which country has comparative advantage in the
production of soybeans?
C. Which country has comparative advantage in the
production of airplanes?
26
EXAMPLE 2A: Calculating opportunity costs
• The U.S. :
– Produce 1 airplane using 500 labor hours, but
using the 500 labor hours to produce soybeans
would have produced 500/10 = 50 tons of
soybeans (TS)
– Opportunity cost of 1 airplane = 50 TS
– Opportunity cost of 1 TS = 0.02 airplanes
• Japan:
– Opportunity cost of 1 airplane = 25 TS
– Opportunity cost of 1 TS = 0.04 airplanes
27
EXAMPLE 2B, C: Comparative advantage
Opportunity cost of producing:

1 Airplane 1 Ton of soybeans
The U.S. 50 tons of soybeans 0.02 airplanes
Japan 25 tons of soybeans 0.04 airplanes
• Comparative advantage in airplanes: Japan

– Because Japan only has to give up 25 tons of
soybeans (less than the 50 for U.S.)
• Comparative advantage in soybeans: the U.S.
– Because the U.S. has the lowest opportunity
cost of producing soybeans
28
Comparative Advantage and Trade
• Gains from trade
– Arise from comparative advantage
(differences in opportunity costs)
• When each country specializes in the
good(s) in which it has a comparative
advantage
– Total production in all countries is higher
– The world’s “economic pie” is bigger
– All countries can gain from trade
The Price of the Trade
• The price of trade
– Must lie between their opportunity costs
• In our example: 22 airplanes were traded for
880 tons of soybeans
– So, the price of trade is 1 airplane for 40
tons of soybeans
• Greater than Japan’s opportunity cost of 1
airplane (25 tons of soybeans )
• Lower than U.S. opportunity cost of 1 airplane
(50 tons of soybeans)
Active Learning 4: Argentina and Brazil
Argentina, 10,000 hours of labor/month:
– producing 1 lb. coffee requires 2 hours;
– producing 1 bottle wine requires 4 hours
Brazil, 10,000 hours of labor/month:
– producing 1 lb. coffee requires 1 hour
– producing 1 bottle wine requires 5 hours
A. Which country has an absolute advantage in the
production of coffee?
B. Which country has a comparative advantage in
the production of wine?
31
Active Learning 4: Answers
A. Absolute advantage in the production of coffee?
– Fewer resources to produce 1 lb. of coffee
– Brazil: (1 labor-hour in Brazil, but 2 in
Argentina)
B. Which country has a comparative advantage in
the production of wine?
– Producing wine at the lowest opportunity cost
– Argentina’s opportunity cost of wine= 2 lb.
coffee
– Brazil’s opportunity cost of wine= 5 lb. coffee
32
ASK THE EXPERTS
Trade between China and the United States
“Some Americans who work in the production
of competing goods, such as clothing and
furniture, are made worse off by trade with
China.”
Source: IGM Economic Experts Panel, June 19, 2012.
33
THINK-PAIR-SHARE
You are watching an election debate on
television. A candidate says, “We need to stop the
flow of foreign steel into our country. If we place a
tariff on imports of steel, our domestic steel produc
tion will rise and the United States will be better off.”
A. Will the U.S. be better off if we limit steel
imports? Explain.
B. Will anyone in the U.S. be better off if we limit
steel imports? Explain.
C. In the real world, does every person in the
country gain when restrictions on imports are
reduced? Explain.
34
CHAPTER IN A NUTSHELL
• Interdependence and trade are desirable
– Allow everyone to enjoy a greater quantity
and variety of goods and services
• Comparative advantage: being able to
produce a good at a lower opportunity cost
• Absolute advantage: being able to produce a
good with fewer inputs
• The gains from trade are based on
comparative advantage, not absolute
advantage
35
CHAPTER IN A NUTSHELL
• Trade makes everyone better off:
– It allows people to specialize in those
activities in which they have a
comparative advantage
• The principle of comparative advantage
applies to countries as well as to people
• Economists use the principle of comparative
advantage to advocate free trade among
countries
36

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N.

GREGORY MANKIW NINTH EDITION

Source: IGM Economic Experts Panel, June 19, 2012.

0 1,000 2,500 4,000 5,000 • OR any combination

C1 U.S. • The U.S. production

Airplanes Producing 3,500 tons of

Airplanes Producing 48 airplanes

0 2,500 3,500 5,000

0 600 1,200 2,500

Opportunity cost of producing:

• Comparative advantage in airplanes: Japan

Source: IGM Economic Experts Panel, June 19, 2012.

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