|Posted on April 14, 2014 at 5:15 PM|
If you are deciding whether countries should specialize and trade, then you must use the law of comparative advantage (AKA the Ricardian Model). First establish which country will be exporting which good. To do this, simple look at which country has the lower opportunity cost in producing the good. The country with the lowest opportunity cost will specialize in that good and export that good.
To determine if the trade terms are beneficial, do the following: Imports divided by Exports
If the Imports / Exports are > than the opportunity cost of the country's export then it is a good trade for that country.
You must do the same thing for the other country since it is exporting the other good if it has a comparative advantage in the production of the other good.
This No Bull Review video explains it the best!
AP Macroeconomics Unit 1 Basic Economic Concepts