Eco10004 Economic Principles

Written Assessment ECO10004 Economic Principles

Task 1: Economic Foundations and Market Forces

Ellen Samlal | Student Number: 101577644

Question 1a

The opportunity cost of any activity is the highest - valued alternative that must be given up to engage in that activity. Monica's opportunity cost is the 30 minutes she takes to make pizza in which she could have used to make fine coffee. Rachel's opportunity cost is the 60 minutes/1 hour she takes to make pizza in which she could have used to make fine coffee.

Absolute advantage is the ability of an individual, firm or country to produce more of a good or service than competitors using the same amount of resources. This means that Monica has the absolute advantage, as she spends only 35 minutes making both products whereas her flatmate, Rachel, takes 75 minutes.

Comparative advantage is the ability of an individual, firm or country to produce a good or service at a lower opportunity cost than other producers. Rachel has the comparative advantage when making pizza as she has the lower opportunity cost of 4 cups of coffee whereas Monica has an opportunity cost of 6 cups of coffee.

Question 1b

The basis of trade theory is to trade off the comparative advantage, not the absolute advantage. It suggests that individuals, firms or countries are better off if they specialise in producing goods or services for which they have a comparative advantage and receive other goods and services by trading. Rachel will specialise in making fine coffee and Monica will specialise in making pizza. In the 30 minutes it takes Monica to make 1 pizza, Rachel will make 2 coffees, then they will trade half of what they have produced, therefore, Monica will give Rachel half a pizza and Rachel will give Monica 1 coffee.

Question 1c

Rachel would sell 1 of her pizzas for 2 cups of coffee which is equivalent to 1 of Monica’s pizzas.

Question 2

A glass of water’s marginal benefit is dependent on the individual’s situation. If you were trapped in the middle of a desert having no water in sight, the marginal benefit would be large for that individual. If you were at home, with free flowing drinkable water from the tap, then the marginal benefit would be small.