Micro Economic Principles Assignment Example | Topics and Well Written Essays - 1500 words

Micro Economic Principles - Assignment ExampleT here(predicate)fore, according to Adam Smith, absolute embody difference provides the basis for international trade. (In this example motor hour is taken to be the only if resource of production.) David Ricardo had later extended the above said idea by pointing out that it is comparative advantage and non absolute advantage that forms the basis of international trade. COUNTRIES CLOTHING (labour hours per unit) FOOD (labour hour per unit) RELATIVE COSTS (C/F) RELATIVE COSTS (F/C) U.S. 8 hours/unit 10 hours/unit 0.8 hours/unit 1.25 hours/unit INDIA 10 hours/unit 15 hours/unit 0.67 hours/unit 1.5 hours/unit Here, it brush off be seen that India has an inferior productivity compared to U.S. in both the goods. In the absence of trade both the nations will have to produce both the goods in order to meet the local demands. But, in the presence of trade, India should produce only clothing as it has a lower opportunity cost. Again, U.S. sh ould specialize in food because here food has a lower opportunity cost. Opportunity cost is the cost incurred when a choice is made, in terms of the next best available option. In the above stated example, India by producing 1 unit of clothing is losing out on 0.67 units of food but if India were to produce food, then by producing 1 unit of food, India would have lost out on 1.5 units of clothing. Therefore, a agricultural should specialize in a good that has a lower opportunity cost. Considering 100 hours of labour, the figure below shows the gains from trade For U.S., For India, Production possibility frontier or the production possibility curve is a curve representing the tradeoff between two commodities given the resources is efficiently utilized. The PPC shows the maximum marrow of one commodity that can be obtained given fixed amount of second commodity. Terms of trade is ( harm of exports)/ (price of imports). It is the quantity imports which can be purchased using a certai n fixed amount of exports. Trade line is the line representing the terms of trade. Gains from trade are the gains that result from specialization and trade arrangements between two countries. In this example, both U.S. and India are gaining from this arrangement. The price of food post trade will be between 1.25-1.50 and the price for clothing will be between 0.67-0.80. This proves that trade will be honest for both the countries. (Pugel, n.d. Krugman, 2007) Answer 2. a) Given, MPC= 10+10Q P= 70 5Q The private food market equilibrium will have the MPC = P or, 10+ 10Q = 70 -5Q or, 15Q= 60 therefore, Q = 4 substituting the value of Q in the demand compare we get, P = 70 5*(4) or, P = 50. b) Given, MSC= 10 + 12Q P= 70 -5Q The social market equilibrium will have the MSC = P or, 10 + 12Q = 70 5Q or, 17Q = 60 therefore Q*= 3.53 (approx) socially optimum Q substituting the value of Q in the demand equation we get, P= 70 -5*(3.53) or, P*= 52.35 socially optimum P (Varian, 2010) The eq uilibrium in (a) is not optimal because in case of negative externalities, fringy social cost marginal private cost. The diagram above shows that for a profit maximizing producer, for a given cost, the profit maximizing siding is Q which is greater than the socially optimum output Q*. By producing at Q, the producer is causing an externality worth AB which the producer is not treating as a cost. (Varian, 2010) The equilibrium in (b) is optimal because here the cost of externality is also