ECON1010 (Lec 03) - Interdependence and the Gains from Trade

Interdependence and the Gains from Trade

Interdependence and the Gains from Trade

• Global daily activities involve products from various countries.
• Economics studies goods distribution to satisfy wants and needs.

Economic Choices in a Global Economy

• Options: economic self-sufficiency or specialization and trade.
• Specialized production addresses scarcity, raising questions about interdependence.

Reasons for Interdependence

• Interdependence is beneficial, as specialization and trade make people better off.
• Patterns of production and trade depend on differences in opportunity costs.

A Parable for Modern Economy

• Illustration: self-sufficiency vs. specialization (potatoes and meat).
• Specialization and trade lead to expanded consumption opportunities.

Comparative Advantage

• Definition: the ability to produce a good or service at a lower opportunity cost than another producer
• Differences in production costs determine what to produce and trade.
• Measurement methods: hours required or opportunity cost of sacrificing one good for another.

Absolute Advantage

• Definition: the ability to produce more of a good or service than another producer, using the same amount of resources
• Comparison of productivity among producers.
• Absolute advantage is about requiring fewer inputs for production.

Opportunity Cost and Comparative Advantage

• Opportunity cost is what must be given up to obtain an item.
• Comparative advantage is based on smaller opportunity cost.

Comparative Advantage and Trade

• Comparative advantage and differences in opportunity costs drive specialized production and trade.
• Trade benefits society by allowing individuals to specialize in activities with comparative advantage.

Legacy of Adam Smith and David Ricardo

• Adam Smith’s analysis in 1776 on trade and economic interdependence.
• David Ricardo’s development of comparative advantage principles in 1816.

Applications of Comparative Advantage

• Example: Should Tiger Woods mow his own lawn?
• Consideration: Should the United States trade with other countries?

International Trade Impact

• International trade can benefit a country as a whole but may make some individuals worse off.
• Imports are goods produced abroad and sold domestically, while exports are goods produced domestically and sold abroad.

Summary

• Interdependence and trade enhance access to a greater quantity and variety of goods and services.
• Comparison methods: absolute advantage in productivity or comparative advantage in opportunity cost.
• Gains from trade rely on comparative advantage, benefiting individuals and countries alike.