Production, Opportunity Cost. The Economic Problem

Transcription

1 Lecture 2 Prductin, Opprtunity Cst and Relative Price Eric Dviak Principles f Micrecnmics The Ecnmic Prblem What will be prduced? Basic needs: fd, clthing, shelter, etc. Nn-essentials: fish tanks, televisins, etc. Capital gds: machinery, tls, human skills, etc. t prduce mre in the future Hw will it be prduced? What resurces are available? Hw shuld labr and capital be allcated the prductin f each f the varius prducts? Wh will get what is prduced? Hw shuld the prducts be allcated t the members f sciety individuals, businesses, gvernment, etc.? Page 23

2 Cmparative Advantage This is ne f the very few ecnmic principles which is undeniably true, but is nt bvius t intelligent peple. The US has a cmparative advantage in the prductin f a gd, if the pprtunity cst f prducing that gd is lwer in the US than it is in ther cuntries. Opprtunity cst hw much f ne gd yu have t give up in rder t gain mre f anther. Unit labr requirement amunt f labr needed t prduce ne unit f a gd. Ex. If I type 2 pages f ntes per hur, then my unit pages hur page hur labr requirement (t type ne page) is half an hur per page. Cuntries gain frm trade, if they specialize in prducing the gds in which they have a cmparative advantage, althugh there may be distributinal effects t cnsider. Cmparative Advantage Clleen can cut 12 lgs a day r gather 10 s f fd a day Bill can nly cut 5 lgs a day r gather 8 s a day Clleen s pprtunity cst f cutting lgs: 12 lgs 10 s 0.83 s 12 lgs lg 10 s f gathering fd: lgs s day 10 s 12 lgs lgs Bill s pprtunity cst f cutting lgs: 5 lgs 8 s 1.6 s 5 lgs lg 8 s f gathering fd: 5 lgs s 8 s 5 lgs lgs Clleen has a cmparative advantage in cutting lgs because her pprtunity cst f cutting lgs is less than Bill s. Bill has a cmparative advantage in gathering fd because his pprtunity cst f gathering fd is less than Clleen s. Page 24

3 Clleen has a cmparative advantage in cutting lgs. Bill has a cmparative advantage in gathering fd. Clleen has an ABSOLUTE advantage in the prductin f BOTH gds, but she has a COMPARATIVE advantage in the prductin f nly ONE gd (cut lgs). Relative Price If Clleen and Bill valued lgs and fd equally, then they wuld trade lgs fr fd at a ne-t-ne rati. If yu prefer t think in terms f dllar values: let the price f lgs be ne dllar per lg: $1/lg let the price f fd be ne dllar per : $1/ s that: the relative price f lgs is ne per lg: $1/lg $1/ 1 lg the relative price f fd is ne lg per : $1/ 1 $1/lg lg Clleen s Specializatin Cutting Lgs A persn (cuntry) shuld specialize in prducing a gd if its pprtunity cst is less than the relative price f that gd. Clleen shuld specialize in lgs because her pprtunity cst f cutting lgs is less than the relative price f lgs. By cntrast, Bill shuld nt cut lgs because his pprtunity cst f cutting lgs is greater than the relative price f lgs. Clleen's pp. cst f 0.83 s lg lgs rel. price f lgs 1 lg Bill's pp. cst f 1.6 s lg Clleen s Gains frm Trade lgs By specializing in cutting lgs and trading her lgs fr fd, Clleen gains mre fd (per day f wrk) than if she gathered fd herself. 12 lgs * 1 12 s 1lg 10 s Page 25

4 Bill s Specializatin Gathering Fd A persn (cuntry) shuld specialize in prducing a gd if its pprtunity cst is less than the relative price f that gd. Clleen shuld nt gather fd because her pprtunity cst f gathering fd is greater than the relative price f fd. By cntrast, Bill shuld gather fd because his pprtunity cst f gathering fd is greater than the relative price f fd. Clleen's pp. cst f fd 1.2 lgs rel. price f fd 1 lg Bill s Gains frm Trade Bill's pp. cst f fd lgs By specializing in gathering and trading his fd fr lgs, Bill gains mre lgs (per day f wrk) than if he cut lgs himself. 8 s* 1lg 8 lgs 1 5 lgs Mral f the Stry Even thugh Clleen can prduce bth gds mre efficiently, she gains by specializing in lgs (the gd in which she has a cmparative advantage) and trading her lgs fr fd with Bill. Mral: America gains by trading with less develped cuntries. Even thugh Bill is less efficient at prducing bth gds, he gains by specializing in fd (the gd in which he has a cmparative advantage) and trading his fd fr lgs with Clleen. Mral: less develped cuntries gain by trading with America. Lwer Prductivity Lwer Wage Recall the dllar prices f each gd: $1/ and $1/lg Clleen prduces 12 lgs per day, s her wage is $12 per day. Bill prduces 8 s per day, s his wage is $8 per day. This is why the Malaysians wh made yur sneakers, receive a much lwer wage than yu d. They re less prductive. Page 26

5 ecn. data fr 15 f the largest underdevelped cuntries, 2001 cuntry GDP per Human Exprts as Imprts as cap. at PPP Dev. Index % f GDP % f GDP Mexic $ 8, % 27.5 % 29.8 % Brazil $ 7, % 13.2 % 14.2 % Thailand $ 6, % 66.0 % 59.4 % Philippines $ 3, % 48.6 % 51.7 % Turkey $ 5, % 33.7 % 31.3 % China $ 4, % 25.5 % 23.1 % Iran $ 6, % 20.7 % 18.5 % Vietnam $ 2, % 54.6 % 57.0 % Indnesia $ 2, % 42.3 % 34.9 % Egypt $ 3, % 17.4 % 22.1 % India $ 2, % 13.5 % 14.1 % Bangladesh $ 1, % 15.4 % 21.5 % Pakistan $ 1, % 18.0 % 19.3 % Nigeria $ % 43.3 % 34.4 % Ethipia $ % 15.1 % 29.8 % crrelatin matrix GDP per Human Exprts as Imprts as cap. at PPP Dev. Index % f GDP % f GDP GDP per cap. at PPP Human Dev. Index Exprts as % f GDP Imprts as % f GDP surces: Wrld Develpment Indicatrs (2005); Human Develpment Reprt (2003) Trading Up Of the cuntries in the table abve, the nes which have the highest levels f human develpment, are generally the nes that engage in mre internatinal trade. the Human Develpment Index is psitively crrelated with: a cuntry s share f exprts in GDP a cuntry s share f imprts in GDP the crrelatins are nt perfect, but they are significant mral f the stry Cuntries gain frm trade, if they specialize in prducing the gds in which they have a cmparative advantage, althugh there may be distributinal effects t cnsider: wrkers wh are nt wrking in the sectr where the cuntry has a cmparative advantage will be adversely affected by free trade ex. in America steel wrkers, textile wrkers and farmers are adversely affected by trade Page 27

6 Prductin Pssibilities Frntier PPF all cmbinatins f gds that can be prduced if resurces are used efficiently. One can prduce at r belw the PPF, but nt abve it. In ne day, Clleen can: cut 12 lgs r gather 10 s r prduce a cmbinatin, such as: 6 lgs and 5 s. In ne day, Bill can: cut 5 lgs r gather 8 s r prduce a cmbinatin, such as: 2.5 lgs and 4 s. Slpe f the PPFs (abve) is: 1*pp. cst f gathering fd Gains frm Trade Add a red line whse slpe represents the relative price: lg 1 If Clleen specializes in cutting lgs: If Bill specializes in gathering fd: she can trade sme f her lgs fr s f fd and he can trade sme f his s f fd fr lgs and cnsume a cmbinatin that exceeds any cmbinatin that she culd prduce n her wn. cnsume a cmbinatin that exceeds any cmbinatin that he culd prduce n his wn. Page 28

7 Prductin Functin Quantity prduced is a functin f capital and labr: Q = f (K, L) If yu have ne unit f kapital (fr example, ne stve in a kitchen), and yu keep increasing number f wrkers (labr) at that machine the quantity prduced will increase but at a decreasing rate because the wrkers start t get in each ther s way t many cks in the kitchen Q = f (K, L) This prductin functin is drawn fr a fixed amunt f capital. PPF represents: all the pssible cmbinatins f gds (and services) that can be prduced, if resurces are used efficiently. Prductin pssibilities are cnstrained by amunt f labr and capital in the ecnmy. Cannt prduce abve PPF If we shift labr frm prductin f X and int prductin f Y, less X will be prduced mre Y will be prduced PPF summarizes pprtunity cst f all such shifts. If resurces are nt used efficiently labr unemplyment, inefficient management the ecnmy is prducing at a pint belw the PPF. Prductin Pssibilities Frntier Page 29

8 Cuba s Ten Millin Tn Sugar Harvest In the 1960s, Cuba prduced abut 6 t 7 millin tns f sugar a year, which was sld primarily t cuntries in the Sviet blc. Beginning in 1969, Cuban dictatr Fidel Castr sent hundreds f thusands f urban wrkers int the fields in an effrt t prduce 10 millin tns f sugar in Ultimately, Cuba missed its gal and nly managed t prduce 8.5 millin tns the largest harvest in Cuban histry. What were the effects n Cuban ecnmy? Fr simplicity, assume that befre the plan: Cuba prduced 6 millin tns f sugar and 5 millin tns f "everything else" relative price f sugar was ne tn f everything else per tn f sugar, at a relative price f 1 everything sugar else, Cuba traded 2 millin tns f sugar fr 2 millin tns f everything else and cnsumed 4 millin tns f sugar and 7 millin tns f everything else massive disruptins in the Cuban ecnmy Since Cuba allcated all f its prductin t sugar, it prduced at the "sugar crner" f its PPF. At that crner, the pprtunity cst f prducing sugar exceeds the relative price f sugar. Fr simplicity, let's pretend that Cuba: succeeded in prducing all 10 millin tns f sugar, but didn't prduce anything else at a relative price f 1 everything sugar else, Cuba traded 6 millin tns f sugar fr 6 millin tns f everything else and cnsumed 4 millin tns f sugar and 6 millin tns f everything else S (in this example) Cubans cnsumed the same amunt f sugar, but their cnsumptin f everything else fell frm 7 millin tns t 6 millin tns a 15 percent decrease. Page 30

9 sweet it wasn t Q: Wuld a 15 percent decrease in cnsumptin f everything else a massive disruptin in the ecnmy? A: If yu culd cnsume the same amunt f sugar that yu did last year, but yur cnsumptin f everything else fell 15 percent, wuld yu be happy? lessn frm Cuba s experiment a cuntry shuld prduce at the pint alng its PPF, where the pprtunity cst f prducing a gd (ex. sugar) equals the relative price f that gd Cubans suffered because their cuntry prduced at a pint where the pprtunity cst f prducing sugar exceeded the relative price f sugar Similarly, had Cuba allcated all f its resurces t prducing everything else and prduced n sugar it als wuld have suffered because at such a pint, the pprtunity cst f prducing everything else wuld have been greater than the relative price f everything else (frm the ppsite perspective ) because at such a pint, the pprtunity cst f sugar wuld have been less than the relative price f sugar Why did Bill and Clleen cmpletely specialize in ne gd? A cuntry shuld cmpletely specialize in the prductin f ne gd ONLY if the relative price f that gd is greater than the cuntry s pprtunity cst f prducing it at every pint alng the PPF Bill and Clleen s pprtunity cst was cnstant all alng their PPFs the PPF I drew fr Cuba assumes increasing pprtunity cst i.e. Cuba s pprtunity cst f prducing sugar increases as it prduces mre sugar Page 31