International Trade and Economics of Less: Gains from Specialization and Trade

Gains from Specialization and Trade It's easy to show how both nations can gain from specializing in the good for which they enjoy a comparative advantage and then trade to enjoy other goods. Suppose nation B uses all of its resources to produce bananas in a given year. By doing so it will produce 10 tons of bananas per year. Now suppose it offers 5 tons of its production to nation A. What is the maximum amount of wheat that nation A will trade for the 5 tons of bananas? It would cost nation A 5 tons of wheat to produce 5 tons of bananas. Therefore A would be no worse off if it traded 5 tons of wheat for the 5 tons of bananas. If the traders of nation B were skillful enough to extract a bargain like that, they would have 5 tons of bananas to enjoy and 5 tons of wheat. If nation B produced 5 tons of bananas and engaged in no trade, the best it could do, given its production possibilities curve, would be to enjoy 2½ tons of wheat. This would correspond to point X on its production possibilities curve in Box 7. By specializing in banana production and trading with nation A, the traders of nation B can enjoy as much as 5 tons of wheat! International trade therefore gives citizens of a nation the potential to achieve points like Y in Box 7 that lie above their production possibilities curve. Of course, citizens of nation B would be able to do this as long as they received anything more than 2½ tons of wheat for their 5 tons of bananas. If nation A were to trade anything less than 5 tons of wheat for for the 5 tons of bananas offered by nation B, the citizens of nation A would also be able to achieve points above their production possibilities curve. International trade opens up the possibility of gains in world efficiency from resources by allowing additional mutual gains that would not be possible if each nation attempted to remain self-sufficient. It's easy to show how nation A can gain by specializing in wheat. Suppose nation A produced 17½ tons of wheat per year. The graph in Box 7 shows that, at most, without trade, it could enjoy only 2½ tons of bananas per year. However, if nation A specialized in wheat production, it would be able to produce 20 tons per year. It could offer 2½ of these 20 tons to nation B in exchange for bananas. What is the maximum amount of bananas nation B would give up, without being made worse off, to obtain 2½ tons of wheat? Nation B would have to sacrifice as much as 5 tons of bananas to produce that much wheat by itself. This is the maximum amount of bananas it would be willing to exchange for 2½ tons of wheat. If it did give up 5 tons of bananas for 2½ tons of wheat, it would be no worse off. However, if traders for nation A could strike such a clever bargain, they would be able to consume 17½ tons of wheat per year and 5 tons of bananas. This would allow nation A to move beyond its own production possibilities curve from point W to point Z. Of course, if nation B gave up anything less than 5 tons of bananas for the wheat, it would gain as well. As you can see, specialization according to comparative advantage allows mutual gains from trade that enable each trading nation to move beyond its own production possibilities curve. Free international trade allows citizens in trading nations to enjoy consumption possibilities that extend beyond their own production possibilities. Although the simple example used to illustrate this point is quite abstract, it has great relevance to the world we live in. For example, Japan has a comparative advantage in 35mm cameras while the United States enjoys a comparative advantage in aircraft. U.S. workers can gain by specializing in the production of aircraft and other items in which the United States is likely to enjoy a comparative advantage. If aircraft are traded for cameras produced in Japan, the aggregate output of both these goods can increase. Americans can enjoy more cameras (because they will cost less when purchased from Japan) for any given output of aircraft than would be possible without international trade. At the same time, citizens of Japan can enjoy more aircraft (because they cost less when purchased from the United States) for any given output of cameras.