Interdependence and the Gains from Trade

class: center, middle, inverse, title-slide

.title[
# Interdependence and the Gains from Trade
]
.subtitle[
## Chapter 3
]
.author[
### Hussain Hadah
]
.date[
### University of Houston | July 12 2022
]

---

# Table of contents

1. [International Trade Game](#Game)

2. [Facts About Trade](#Trade)

3. [The Modern Economy](#mod)

4. [Examples](#ex)

5. [Specialization and Trade](#trade2)

6. [Problems and Applications](#probs)

---
# This week

<h2>
  <ul>
    <li>We will play a game for extra credit 🎮</li>
    </br>
    <li>Chapter 3, 4 and 5 📚</li>
    </br>
    <li>Today is the last day to add classes ➕ ➖</li>
    </br>
    <li>HW for chapters we cover are due this week ⏰</li>
  </ul>
</h2>
---
class: inverse, center, middle
name: Game

# International Trade Game

---

# Overview of the Game

<h3>
  <ul>
    <li>Students should divide into 6 teams (8-14 students a team)</li>
    <li>Each team is a 'country'</li>
    <li>Each team will have an envelope with items</li>
    <li>Each team wants to have as much money as possible</li>
    <li>Trading items is allowed</li>
    <li>There's a trader at the front that you can sell your production to</li>
  </ul>
</h3>
  
---
# Rules

<h3>
  <ul>
    <li>The objective is to make as much money by using the materials provided to you to make shapes</li>
    <li>Only the materials provided to you are allowed to be used to manufacture</li>
    <li>All shapes must be cut with clean sharp edges and must be the exact size specified by me</li>
    <li>Shapes can be sold to trader in batches</li>
    <li>Trader can reject inaccurate shapes</li>
    <li>More shapes more money</li>
    <li>You cannot use the envelope to make shapes</li>
    <li>You must stop whatever you're doing and listen when I talk</li>
  </ul>
</h3>

---
# You have 30 minutes

## Start your production

---
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name: disc

# Discusssion

<html><div style='float:left'></div><hr color='#EB811B' size=1px width=796px></html>
---
# Questions

<h3>
  <ol>
    <li>Did countries end the game richer or poorer than they started? Which ones?</li>
    </br>
    
--
    <li>What was it like to be a rich country? A poor country?</li>
    </br>
    
--
    <li>Was it easy or difficult to trade? Why?</li>
    </br>
    
--
    <li>Did any country feel especially powerful or powerless?</li>
    </br>
    
--
    <li>Which items were most popular? Which were least popular? Why?</li>
  </ol>
</h3>

---
class: inverse, center, middle
name: Trade

# Facts About Trade

---

# Trade over the last two century

---
# GDP Per Capita

---
<h1 style="font-size:32px">Trade has grown more than proportionately with GDP
</h1>

</br>

---
# Trade and Growth

---
# Trade did have some negative effects

---
# Trade decreased cost of living

---
class: inverse, center, middle
name: mod

# The Modern Economy

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# We live in a globalized world

- Our lives are constantly affected by international trade
- A Starbucks coffee that you buy needs inputs that thousands of people in different places have worked on:
  1. You buy your coffee here in Houston from a firm based in Seattle
  2. Starbucks employees brew the coffee
  3. The coffee beans are flown in from Colombia, Brazil, Ethiopia, etc.
  4. The coffee beans were cultivated and collected by farmers in these countries

- This is made possible because of international trade

---
# Economists agree that free trade is good

---
# Production Possibilities

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# A few definitions

- <span style="color:red;"> _Absolute advantage_ </span> is used by economist when the productivity of a firm, person, nation, etc. requires the least number of inputs to produce a good.

- <span style="color:red;"> _Opportunity cost_ </span> of some item is what we give up to get that item.

- <span style="color:red;"> _Comparative advantage_ </span> is used when describing the _opportunity cost_ faces by two producers. The person that gives up less of good Y to produce good X has a smaller _opportunity cost_ of producing X, therefore, they have a comparative advantage.

---
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name: ex

# Examples

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<h1 style="font-size:27px">Who has an absolute advantage in the production of each good?<h1>

</br>

---
class: inverse, center, middle
name: trades

# Specialization and Trade

---
# Specialization and Trade

---
<h1 style="font-size:35px">Interdependence and benefits from trade</h1>

</br>

<ul>
  <li>Franks produces 1 oz of meat in 60 mins and 1 oz of potatoes in 15 mins</li>
    <ul>
      <li>In the time it takes him to make 1 oz of meat he could make 4 oz of potatoes (60/15 = 4)</li>
      <li>In the time it takes him to make 1 oz of potatoes he could make 1/4 oz of meat (15/60 = 1/4)</li>
      </ul>
  <li>Ruby produces 1 oz of meat in 20 mins and 1 oz of potatoes in 10 mins</li>
  <ul>
      <li>In the time it takes her to make 1 oz of meat she could make 2 oz of potatoes (20/10 = 2)</li>
      <li>In the time it takes her to make 1 oz of potatoes he could make 1/2 oz of meat (10/20 = 1/2)</li>
  </ul>
</ul>

---
<h1 style="font-size:35px">Interdependence and benefits from trade</h1>

</br>

<ul>
  <li>Who has a comparative advantage in producing potatoes?</li>
  <li>Who has a comparative advantage in producing meat?</li>
  <li> With trade, Frank can specialize in producing potatoes and Ruby in producing meat</li>
  <li>For both parties to gain from trade, the price at which they trade must lie between their opportunity costs</li>
  <li>In our example, for trade to happen, the price of meat should be between 2 and 4 oz of potatoes and the price of potatoes should be between 1/4 and 1/2 oz of meat</li>
  <li>Frank can then trade 1 oz of meat for a price that's <4 oz of potatoes</li>
</ul>

---
class: inverse, center, middle
name: probs

# Problems and Applications

---
<h1 style="font-size:35px">Should LeBron and Taylor Swift mow their lawn?</h1>

<h2>
  <ol>
    <li>Let's say LeBron and Taylor really enjoy mowing their lawn</li>
    <li>It takes them 2 hours to do it</li>
    <li>In 2 hours they can also shoot a Calm ad or record a song that would get them millions</li>
    <li>They can pay their neighbor $40 an hour to mow and it takes them 4 hours to do it</li>
  </ol>
</h2>

---
# Question 1

Maria can read 20 economics pages/hour and 50 sociology pages/hour. She spends 5 hours a day studying.

a. Draw Maria's PPF for reading econ and soc

b. What is Maria's opportunity cost of reading 100 pages of sociology?

It takes Maria 2 hours to read 100 pages of sociology. In that time, she could read 40 pages of economics. So, the opportunity cost of 100 pages of sociology is 40 pages of economics.

---
# Question 2

American and Japanese workers can produce 4 cars per year. An American worker can produce 10 tons of grain per year, a Japanese worker produces 5 tons per year. Assume there are 100 million workers.

a. Construct a table similar to the table in figure 1

### b. Graph the PPF for both countries

---

### c. For the United States, what is the opportunity cost of a car? Of grain? For Japan, what is the opportunity cost of a car? Of grain? Put this information in a table analogous to Table 1

Because a U.S. worker produces either 4 cars or 10 tons of grain, the opportunity cost of one car is 2 1/2 tons of grain, which is 10/4. Similarly, the U.S. opportunity cost of a ton of grain is 2/5 car (4 divided by 10). Because a Japanese worker produces either 4 cars or 5 tons of grain, the opportunity cost of one car is 1 1/4 tons of grain, which is 5/4 and the Japanese opportunity cost of a ton of grain is 4/5 car. This results in the following table:

---

### d. Which country has an absolute advantage in producing cars? In producing grain?

Neither country has an absolute advantage in producing cars, because they are equally productive (the same output per worker); the United States has an absolute advantage in producing grain, because it is more productive (greater output per worker).

### e. Which country has a comparative advantage in producing cars? In producing grain?

Japan has a comparative advantage in producing cars, because it has a lower opportunity cost in terms of grain given up. The United States has a comparative advantage in producing grain, because it has a lower opportunity cost in terms of cars given up.

---

### f. Without trade, half of each country’s workers produce cars and half produce grain. What quantities of cars and grain does each country produce?

With half the workers in each country producing each of the goods, the United States would produce 200 million cars (50 million workers times 4 cars each) and 500 million tons of grain (50 million workers times 10 tons each). Japan would produce 200 million cars (50 million workers times 4 cars each) and 250 million tons of grain (50 million workers times 5 tons each).

---
# Question 3

Diego and Darnell are roommates. They spend most of their time studying (of course), but they leave some time for their favorite activities: making pizza and brewing root beer. Diego takes  4 hours to brew a gallon of root beer and 2 hours to make a pizza. Darnell takes  6 hours to brew a gallon of root beer and  4 hours to make a pizza.

#### a. What is each roommate’s opportunity cost of making a pizza? Who has the absolute advantage in making pizza? Who has the comparative advantage in making pizza?

Diego's opportunity cost of making a pizza is 1/2 gallon of root beer, because he could brew 1/2 gallon in the time (2 hours) it takes him to make a pizza.  Darnell's opportunity cost of making a pizza is 2/3 gallon of root beer, because he could brew 2/3 of a gallon in the time (4 hours) it takes him to make a pizza. Diego has an absolute advantage in making pizza because he can make one in 2 hours, while it takes Darnell 4 hours. Because Diego's opportunity cost of making pizza is less than Darnell', Diego has a comparative advantage in making pizza.

#### b. If Diego and Darnell trade foods with each other, who will trade away pizza in exchange for root beer?

Because Diego has a comparative advantage in making pizza, he will make pizza and exchange it for root beer that Darnell makes.

---
# Question 3 (cont.)

#### c. The price of pizza can be expressed in terms of gallons of root beer. What is the highest price at which pizza can be traded that would make both roommates better off? What is the lowest price? Explain.

The highest price of pizza in terms of root beer that will make both roommates better off is 2/3 of a gallon of root beer. If the price were higher than that, then Darnell would prefer making his own pizza (at an opportunity cost of 2/3 of a gallon of root beer) rather than trading for pizza that Diego makes. The lowest price of pizza in terms of root beer that will make both roommates better off is 1/2 gallon of root beer. If the price were lower than that, then Diego would prefer making his own root beer (he can make 1/2 gallon of root beer instead of making a pizza) rather than trading for root beer that Darnell makes.

---
# Question 4

Suppose that there are 10 million workers in Canada and that each of these workers can produce either 2 cars or 30 bushels of wheat in a year.

#### a. What is the opportunity cost of producing a car in Canada? What is the opportunity cost of producing a bushel of wheat in Canada? Explain the relationship between the opportunity costs of the two goods.

Because a Canadian worker can make either 2 cars a year or 30 bushels of wheat, the opportunity cost of a car is 15 bushels of wheat. Similarly, the opportunity cost of a bushel of wheat is 1/15 of a car. The opportunity costs are the reciprocals of each other.

---
# Question 4 (cont.)

#### b. Draw Canada’s production possibilities frontier. If Canada chooses to consume 10 million cars, how much wheat can it consume without trade? Label this point on the production possibilities frontier.

#### c. Now suppose that the United States offers to buy 10 million cars from Canada in exchange for 20 bushels of wheat per car. If Canada continues to consume 10 million cars, how much wheat does this deal allow Canada to consume? Label this point on your diagram. Should Canada accept the deal?
<img src="HW/Q4a.png" width="40%" height="40%" style="display: block; margin: auto;" />

---
# Question 5

England and Scotland both produce scones and sweaters. Suppose that an English worker can produce 50 scones per hour or 1 sweater per hour. Suppose that a Scottish worker can produce 40 scones per hour or 2 sweaters per hour.

#### a. Which country has the absolute advantage in the production of each good? Which country has the comparative advantage?

English workers have an absolute advantage over Scottish workers in producing scones, because English workers produce more scones per hour (50 vs. 40). Scottish workers have an absolute advantage over English workers in producing sweaters, because Scottish workers produce more sweaters per hour (2 vs. 1). Comparative advantage runs the same way. English workers, who have an opportunity cost of 1/50 sweater per scone (1 sweater per hour divided by 50 scones per hour), have a comparative advantage in scone production over Scottish workers, who have an opportunity cost of 1/20 sweater per scone (2 sweaters per hour divided by 40 scones per hour). Scottish workers, who have an opportunity cost of 20 scones per sweater (40 scones per hour divided by 2 sweaters per hour), have a comparative advantage in sweater production over English workers, who have an opportunity cost of 50 scones per sweater (50 scones per hour divided by 1 sweater per hour).

---
# Question 5 (cont.)

#### b. If England and Scotland decide to trade, which commodity will Scotland export to England? Explain.

If England and Scotland decide to trade, Scotland will produce sweaters and export them to England in exchange for scones. A trade with a price between 20 and 50 scones per sweater will benefit both countries, as they will be getting the traded good at a lower price than their opportunity cost of producing the good in their own countries.

#### c. If a Scottish worker could produce only 1 sweater per hour, would Scotland still gain from trade? Would England still gain from trade? Explain.

Even if a Scottish worker produced just one sweater per hour, the countries would still gain from trade, because Scotland would still have a comparative advantage in producing sweaters. Its opportunity cost for sweaters would be higher than before (40 scones per sweater, instead of 20 scones per sweater before). But there are still gains from trade because England has a higher opportunity cost (50 scones per sweater).