Question

The following hypothetical production possibilities tables are for China and the United States. Assume that before specialization and trade the optimal product mix for China is alternative B and for the United States is alternative U. [Note: 1 unit of apparel is 1,000 items and 1 unit of chemicals is 1 ton].
China Production Possibilities

Product A B C D E F

Apparel 80,000 64,000 48,000 32,000 16,000 0

Chemicals(tons) 0 32 64 96 128 160

U. S. Production Possibilities

Product R S T U V W

Apparel 240,000 192,000 144,000 96,0000 48,000 0

Chemicals(tons) 0 48 96 144 192 240

Instructions:

a. Are comparative-cost conditions such that the two countries should specialize? If so, what product should each produce? b. What is the total gain in apparel and chemical output that would result from such specialization?c. What are the limits of the terms of trade?d. Suppose that the actual terms of trade are 1,000 units of apparel for 1½ tons of chemicals and that 32,000 units of apparel are exchanged for 48 tons of chemicals. What are the gains from specialization and trade for each nation?

Answer 1

The opportunity cost for producing 1 unit of apparel is higher for China, therefore China should produce apparel and the US should produce chemicals.

What is opportunity cost?

It should be noted that opportunity cost simply means the real cost of forgone alternative.

Without trade, China was producing 64000 units of apparel and 32 tons of chemicals. After specialization, China produces 144000 of apparel and US produces 144 tons of chemicals.

The gains from trade will be:

= 144000 - 64000

= 80000 apparels

The tons of chemicals will be:

= 144 - 32

= 112 tons of chemicals.

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