APMacro: Specialization and Trade Review

Absolute advantage refers to a nation’s ability to produce more than another nation, but comparative advantage focuses on a nation’s ability to produce relatively more efficiently than another nation, as measured by a lower opportunity cost. If nations specialize in producing the goods for which they have the comparative advantage and trade, both nations gain from the trade. The terms of trade then determine the parameters for the price of the product being traded. This relationship can be illustrated in production possibilities curves or determined mathematically. It is critical to be able to determine comparative advantage using both methods.

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