Answer to Question #319315 in Economics of Enterprise for Mike

Question

1.2 Explain why nations trade using the following theories and illustrate with an example in each case.

(a) Adam Smith theory [5]

(b) David Ricardo theory

Answer 1

Adams Smith Theory

Nations trade with Adams Smith’s theory because one country produces goods with less labor in comparison to the other country. The theory also gives countries to trade freely as they are pleased. For example, country A is best in producing one product while country B is best in producing another product. each country can specialize in what it is best at thus increasing total production due to trade.

David Ricardo’s Theory

A country can specialize in producing goods which they incur lower opportunity cost whole producing despite lack of absolute advantage in the manufacturing of a particular good. For instance, Chia and UK would realize a mutual benefit if China specializes in tea and porcelain while the UK specializes in machine parts production.