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Absolute Advantage With a given amount of resources Australia can produce 30 units of wheat and 20 units of cloth. While China can produce 5 units of wheat.

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Presentation on theme: "Absolute Advantage With a given amount of resources Australia can produce 30 units of wheat and 20 units of cloth. While China can produce 5 units of wheat."— Presentation transcript:

1 Absolute Advantage With a given amount of resources Australia can produce 30 units of wheat and 20 units of cloth. While China can produce 5 units of wheat and 25 units of cloth. In this example Australia produces more wheat while China can produce an absolute advantage in the production of cloth. Australia then has an absolute advantage in the production of wheat and China an absolute advantage in the production of cloth.

2 Absolute advantage Wheat (units) Cloth (units) Australia3020 China525 Total3545 Australia produces more wheat while China can produce more cloth.

3 Production gains after specilisation Wheat (units) Cloth (units) Australia60(+30)0(-20) China0(-5)50(+25) Total output60(+25) Net gain 50(+5) Net gain

4 Production gains after specialisation When each country specialises in the production of the goods they have a comparative advantage in, greater production of both goods could occur. In the slide you have just seen the production of wheat has increased by 25 units and production of cloth by 5 units.

5 Comparative advantage Wheat unitsCloth units Australia2010 China55 Total output2515

6 Comparative advantage In the slide that you have just seen, Australia has an absolute advantage in the production of both wheat and cloth. By using the theory of comparative advantage, both countries can gain from specialisation and trade.

7 By using the theory of comparative advantage, both countries can gain from specialization and trade. Country1 unit of wheat1 unit of cloth Australia0.5 (10/20) units of cloth 2 (20/10) units of wheat China1 (5/5) units of cloth 1 (5/5) units of wheat Opportunity Cost

8 From the slide you have just seen Australia has a comparative advantage in the production of wheat since it has to give up only 0.5 units of cloth to produce an extra unit of wheat, while China must give up 1 unit of cloth to produce an extra unit of wheat. So it is more practical for Australia to specialise in the production of wheat. China has a comparative advantage in the production of cloth since it has to give up only 1 unit of wheat to produce an extra unit of cloth, while Australia must give up 2 units of wheat to produce an extra unit of cloth. Consequently it is more practical for China to specialise in the production of cloth.

9 Comparative Advantage Australia has a comparative advantage in the production of wheat and China cloth. Trade between the two countries should be beneficial because of the different opportunity costs for these commodities

10 Production levels after Specialisation Wheat (units)Cloth (units) Australian40 (+20)0 (-10) China0 (-5)10 (+5) Total output40(+15) (net gain) 10 (-5) (net gain)

11 Specialisation We can see that total output has increased when countries specialise in the production of goods and services based on comparative advantage. As both countries are using their resources more efficiently, trade will lead to higher standard of living than would be otherwise possible


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