2023 AP Microeconomics FRQ Set 2 #2 (Comparative Advantage & Terms of Trade)

 2023 AP Microeconomics FRQ Set 2 #2 (Comparative Advantage & Terms of Trade)

First think about the steps of comparative advantage questions

1. Is it an output or input problem?

The PPC’s of each country show the amount of each good that can be produced.

Production of goods = output problem

2. Identify absolute advantage

Absolute advantage for an output problem is which country can produce the most

They both can produce 100 wheat – so no one has an absolute advantage for wheat

South can produce 50 cloth while North can produce 300 cloth

North has absolute advantage in cloth as it can produce more.

3. Comparative Advantage: Draw a table – do the math.

Answered Below

4. Check answer using quick method

Answered Below

A) Which country has a comparative advantage in producing wheat? Explain using numbers.

 

Set up your table Step #3

I like countries or people on the left and goods on the top

An output problem so the math is over

Output = Over

Look at Southland first, the 50 goes over the 100 & the 100 goes over the 50

Then do

Northland, the 300 goes over the 100 and the 100 goes over the 300

Your table should look like this, but better :0

Do the math & explain 

Southland

Southland 50/100 = .5

The .5 is the opportunity cost of producing 1 bushel of wheat for Southland

Let’s say it a bit differently – for every 1 bushel of  wheat produced 

Southland gives up .5 cloth

Let’s look on the cloth side for Southland

Southland 100/50 = 2

The 2 is the opportunity cost of producing 1 cloth for Southland

For every 1 cloth produced Southland gives up 2 bushels of wheat

To find comparative advantage we need to do the math for both countries and compare

Northland

Northland 300/100 = 3

Know how to read the table correctly – 

For every 1 bushel of wheat produced Northland gives up 3 cloth

Northland 100/300 = .33

For every 1 cloth produced Northland gives up .33 bushels of wheat

We then want to compare the opportunity costs in the columns for Wheat

The country with the lowest opportunity cost for wheat should produce wheat.

For every 1 wheat produced Southland gives up .5 cloth

For every 1 wheat produced Northland gives up 3 cloth

.5 is the lowest opportunity cost for wheat so Southland should produce/export wheat

 

Let’s look in the column for Cloth and compare

The country with the lowest opportunity cost for cloth should produce cloth.

For every 1 cloth produced Southland gives up 2 wheat

For every 1 cloth produced Northland gives up .33 wheat

.33 is the lowest opportunity cost for cloth so Northland should produce/export cloth

 

With comparative advantage each country should produce one of the goods

You will never have a situation where 1 country will produce both goods

That was a lot of work

Let’s say it again & explain using Numbers

Southland has a comparative advantage in wheat as it has the lowest opportunity cost.

Southland gives up .5 cloth for 1 wheat while Northland gives up 3 cloth for 1 wheat.

Southland should produce/export wheat as it has the lowest opportunity cost.

 

Northland has a comparative advantage in cloth as it has the lowest opportunity cost

Northland gives up .33 wheat for 1 cloth and Southland gives up 2 wheat for 1 cloth

Northland should produce/export cloth as it has the lowest opportunity cost.

 

((Southland should produce wheat & Northland should produce cloth))

 

Step 4. Check answers using quick method.

First cross multiply

 As 100 x 300 = 30,000 The 30,000 is larger than 5,000

We use the two numbers that gave us the 30,000 

and those two numbers show who should produce.

((Southland should produce wheat & Northland should produce cloth))

We have done something right as the slow and the fast method both gave us the same answers

 

B) Identify a specific number of yards of cloth that could be traded for 10 bushels of wheat and would be beneficial to North & South.

First let’s find the mutually beneficial terms of trade for 1 wheat,

If we are looking for what would be could be traded for 10 wheat, we just need to multiply the opportunity costs by 10 and then pick a number between the two opportunity costs.

.5 x 10 = 5

&

3 x 10 = 30

Mutually beneficial terms of trade is a number between 5 & 30

10 wheat for 15 cloth would work

Or 

10 wheat for 20 cloth would work

For 10 wheat Southland (the producer of wheat) needs to get more than 5 and Northland (the consumer of wheat) needs to give up less than 30

For 10 wheat a number of cloth between 5 & 30 would be mutually beneficial

 

C) Southland’s maximum possible output of wheat from 100 bushels to 75 bushels. Assuming no other changes, will Southland have a comparative advantage in producing cloth? Explain using numbers.

Southland’s production of wheat falls to 75 bushels.

It is still an output problem and the math is over

50/75 = .66

75/50 = 1.5

We look in the columns and notice that Southland should still produce wheat as it has the lowest opportunity cost and Northland should produce cloth

 

Explain using the numbers for cloth.

Northland should produce cloth as for every 1 cloth produced Southland gives up 1.5 wheat 

And Northland for every 1 cloth produced gives up .33 wheat, as Northland gives up the least wheat “has the lowest opportunity cost” it should produce cloth.

D) Turnips are produced in a perfectly competitive market in Alderia, a third country, which does not engage in international trade. Runoff from turnip fields pollutes Alderia’s rivers hurting its citizens.

 

(i)  Does the turnip market equilibrium result in an efficient allocation of resources? Explain using marginal analysis.

 

Pollution implies our analysis should be graphed using the production of turnips 

as a negative production externality.

Explain using marginal analysis.

There is a negative production externality as the marginal social cost of producing turnips is greater than the marginal personal cost causing harm to citizens due to the runoff pollution. The allocatively efficient quantity of production should be where the marginal social benefit of consumption of turnips equals the marginal social cost of producing turnips. There is market failure as the market is not producing at the allocatively efficient quantity.

(ii) In an effort to reduce pollution Alderia’s government imposes a lump-sum tax on turnip production. What will be the impact on the turnip market equilibrium price and quantity in the short-run?

 

Lump sum taxes do not affect the marginal cost of the companies and therefore do not change the price or the quantity of production in the short-run.

 

If the government had wanted to reduce the production of turnips, they should have imposed a per-unit tax. As per-unit tax is treated like variable costs in that they shift the marginal cost curve leftward reducing the amount of the good produced.