Model Answer
0 min readIntroduction
The theory of comparative advantage, first articulated by David Ricardo in 1817, forms the cornerstone of international trade economics. It posits that nations benefit from specializing in the production of goods and services they can produce at a lower opportunity cost, even if they don't possess an absolute advantage in their production. Complete specialization occurs when a nation dedicates all its resources to producing only one good or service, and then trades for others. This question asks us to analyze the conditions under which complete specialization is feasible for India and the UK, given their respective labour productivities.
Understanding Comparative Advantage and Opportunity Cost
Before analyzing the given scenario, it’s crucial to understand the concepts of comparative advantage and opportunity cost. Opportunity cost represents the value of the next best alternative foregone. In the context of production, it’s the amount of one good that must be sacrificed to produce one additional unit of another good.
Productivity Data and Opportunity Cost Calculation
Let's analyze the productivity data provided for India and the UK:
| Nation | Wheat (Units of Labour per Unit) | Cloth (Units of Labour per Unit) |
|---|---|---|
| India | 10 | 20 |
| UK | 1 | 2 |
Now, let's calculate the opportunity costs:
India’s Opportunity Costs:
- Opportunity cost of 1 unit of Wheat = 20/10 = 2 units of Cloth
- Opportunity cost of 1 unit of Cloth = 10/20 = 0.5 units of Wheat
UK’s Opportunity Costs:
- Opportunity cost of 1 unit of Wheat = 2/1 = 2 units of Cloth
- Opportunity cost of 1 unit of Cloth = 1/2 = 0.5 units of Wheat
Conditions for Complete Specialization
Complete specialization will be possible if each nation focuses on producing the good for which it has a lower opportunity cost. In this case:
- India has a comparative advantage in Cloth because its opportunity cost of producing Cloth (0.5 units of Wheat) is lower than the UK’s (0.5 units of Wheat).
- The UK has a comparative advantage in Wheat because its opportunity cost of producing Wheat (2 units of Cloth) is lower than India’s (2 units of Cloth).
Therefore, complete specialization will occur if:
- India dedicates all its labour resources to producing Cloth.
- The UK dedicates all its labour resources to producing Wheat.
Benefits of Specialization and Trade
When India specializes in Cloth and the UK in Wheat, and they engage in trade, both nations can consume beyond their production possibilities frontier. For example, if India produces only Cloth, it can produce 1 unit of Cloth with 20 units of labour. If it trades this for Wheat from the UK, it can obtain more Wheat than it could have produced domestically. Similarly, the UK can obtain more Cloth through trade than it could have produced domestically.
Role of Trade Terms
The actual terms of trade (the ratio at which goods are exchanged) will determine the extent of gains from specialization. The terms of trade must lie between the opportunity costs of both countries for mutually beneficial trade to occur. In this case, the terms of trade must be between 0.5 and 2 units of Wheat for 1 unit of Cloth.
Limitations and Real-World Considerations
While the model demonstrates the benefits of specialization, several real-world factors can hinder complete specialization. These include:
- Transportation costs: High transportation costs can reduce the gains from trade.
- Trade barriers: Tariffs and quotas can restrict trade and prevent specialization.
- Demand conditions: Changes in demand can alter the optimal level of specialization.
- Diversification: Nations may choose to diversify their production for strategic or economic security reasons.
Conclusion
In conclusion, complete specialization for India and the UK is possible based on comparative advantage, with India specializing in Cloth and the UK in Wheat. This specialization leads to increased production efficiency and allows both nations to benefit from trade by consuming beyond their individual production possibilities. However, real-world factors like transportation costs and trade barriers can influence the extent to which complete specialization is achieved. The theory of comparative advantage remains a fundamental principle guiding international trade policies and economic analysis.
Answer Length
This is a comprehensive model answer for learning purposes and may exceed the word limit. In the exam, always adhere to the prescribed word count.