Limited resources dictate the need to choose the optimum production values and the production process, based on the principles of a combination of factors, taking into account the substitution effect of the scale of production and the law of declining productivity. Every society, every economic agent tends to use resources effectively. They try to get the maximum amount of goods and services produced from limited resources. To achieve this objective, the company must make full use (completely take) their resources and thus ensure getting the most possible output.
The most possible volume of production provided an effective allocation of resources in certain areas, so that they have made the greatest contribution to the total production. It is obvious that every resource should be used for its intended purpose and in adequate conditions.
The economy of full employment is always an alternative, that is it must choose between producing more goods by reallocating resources. Production possibility frontier (PPF) shows the value of alternatives for the society. Production possibilities curve illustrates the exchange proportion for simplified economic system that produces only two goods. In the construction of the PPF number of factors of production and the level of technology are considered to be the same.
In order to find a benefit from the exchange, it is necessary to determine, on which product each economy will specialize in the international division of labor. The country specializes in that product, the opportunity cost of which is minimal, that is, which has a comparative advantage.
Opportunity costs, the costs of lost profits or costs of alternative opportunities (English Opportunity cost (s).) Economic term for loss of profits (in the particular case - earnings, income) as a result of selecting one of the alternative use of resources and, thereby, giving up other possibilities. The amount of lost profit is determined by the most valuable utility of the discarded alternatives. Opportunity costs - an integral part of any decision-making.
An opportunity cost:
For Brazil (production of one unit of clothing per year): 50000/100000 = 0,5
For USA (production of one unit of clothing per year): 250000/65000 = 3,8
For Brazil (production of one can of soda per year): 100000/50000 = 2
For USA (production of one unit of clothing per year): 65000/250000 = 0,26
The rules for determining absolute and comparative advantages:
when comparing two economies, one of them can have an absolute advantage in one product, and a few products, and none;
if one economy has a comparative advantage in one product, another economy definitely has a comparative advantage in another product;
if the countries have the same opportunity cost of producing two products, none of them has a comparative advantage, and in this case their PPF have the same angle of inclination. Only in this case, the division of labor makes no sense.
In order to effectively trade with another country, this economy does not need to have a better performance in the goods exchanged, and produce enough of it with lower opportunity cost.
It means that the lowest opportunity cost in the manufacture of clothing has Brazil, and the lowest opportunity cost in the production of soda - USA. Therefore, Brazil has a comparative advantage in the production of clothing, and the US in the production of soda.
References
Suranovic, S. (1999). International trade Theory and Policy Lecture Notes. Washington, DC: George Washington University.
