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IAI Actuarial Core Principles · Business Economics · Importance of international trade

Country A can produce 10 tonnes of steel or 20 tonnes of textiles per worker-month. Country B can produce 4 tonnes of steel or 12 tonnes of textiles per worker-month. Which statement is correct?

A has an absolute advantage in both goods, and a comparative advantage in steel. Its opportunity cost of steel is 2 tonnes of textiles against B's 3. Comparative advantage depends on lower opportunity cost, not on higher output, so B specialises in textiles.

  1. AA has an absolute advantage in both goods, and A has a comparative advantage in steelCorrect
  2. BA has an absolute advantage in both goods, and A has a comparative advantage in textiles
  3. CB has an absolute advantage in textiles because its opportunity cost of textiles is lower
  4. DB has a comparative advantage in steel because it produces less steel
  5. Neither country can gain from trade because A is better at both goods

Explanation

A produces more of both goods, so it has an absolute advantage in both. A's opportunity cost of 1 tonne of steel is 2 tonnes of textiles; B's is 3 tonnes. A therefore has the lower opportunity cost in steel and the comparative advantage there, while B has it in textiles. Gains from trade remain possible.

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