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A human being should be able to change a diaper, plan an invasion, butcher a hog, conn a
ship, design a building, write a sonnet, balance account, build a wall, set a bone, comfort the
dying, take orders, give orders, cooperate, act alone, solve equations, analyze a new problem,
pitch manure, program a computer, cook a tasty meal, fight efficiently, die gallantly.
Specialization is for insects. Robert A. Hein
Introduction:
Scarcity Principle reminds us that the opportunity cost of spending more time on any one
activity is having less time available to spend on others. This explains why everyone can do
better by concentrating on those activities at which they perform best relative to others.
The Principle of comparative Advantage
absolute advantage = one person has an absolute advantage over another if an hour spent in
performing a task earns more than the other person can earn in an hour at the task
comparative advantage = one person has a comparative advantage over another in a task if
his or her opportunity cost of performing a task is lower than the other persons opportunity
cost
Time to update a web page
Paula
Beth
20
30
the total number of bicycle repairs and web updates accomplished if Paula and Beth both
spend part of their time at each activity will always be smaller than the number accomplished
if each specializes in the activity in which she has a comparative advantage:
The Principle of Comparative Advantage = everyone does best when each person (or each
country) concentrates on the activities for which her opportunity cost is lowest
The slope of the PPF at any point represents the opportunity cost of coconuts at that
point, expressed in kg of fish, Crusoes opportunity cost of an additonal coconut is 0.5
fish (since slope is -0.5), OCfish = 2 coconuts
Occoconuts = Loss in fish/Gain in coconuts, Ocfish = loss in coconuts/gain in fish
Downward slope illustrates the Scarcity Principle
attainable point = any combination of goods that can be produced using currently available
resources (points on or within/under the curve)
unattainable point = any combination of goods that cannot be produced using currently
available resources (points over the curve)
inefficient point = any combination of goods for which currently available resources enable
an increase in the production of one good without a reduction in the production of the other
(points under the curve)
efficient point = any combination of goods for which currently available resources do not
allow an increase in the production of one good without a reduction in the production of the
other (points on the curve)
How individual productivity affects the slope and position of the PPC:
Principle of Comparative Advantage is a relative concept - one that makes sense only
when the productivities of two or more people (countries) are being compared
Point B (8/8) = output of each person if they divide their time so as to produce the same
quantity of nuts and coffee
Point E (12,12) = not drawn here, consumption of each person if Tom specializes in nuts
and Susan specializes in coffee and they split up the output evenly
The solid lines constitute their production possibility curve (PPC) or procuction possibility
frontier (PPF) = describes the maximum amount of one good that can be produced for every
possible level of production of the other good
The PPF confronts every society with trade-offs: the only way people can produce
and consume more nuts is to produce and consume less coffee
BUT: in the long-run it is often possible to increase the production of all goods
through economic growth. Reasons for economic growth:
1. increases in the amount of productive resources available can result
from investment (i.e. workers have more and better equipment)
2. improvement in knowledge or technology higher output through
increased specialization result indirectly from increases in education
3. Population growth also causes an economys PPF curve to shift outwards
though cannot by itself raise countrys standard of living (also problems:
i.e. availability of land)
Many of these differences which lead to economic growth can act reinforcing which
leads to even bigger differences between economies
Adam Smith was the first to recognize the gains made by the division and specialization of
labour
Nations can benefit from exchange based on comparative advantage, even though
one may be generally more productive than another in absolute terms!
the greater the difference between domestic opportunity cost and world opportunity
cost, the more a nation benefits from exchange with other nations
BUT expansion in trade does not guarantee that each individual citizen will do better.
In particular unskilled workers in high-wage countries may be hurt in the short run by
the reduction of barriers to trade with low-wage nations