Refer to the figure shown, which represents the production possibilities frontiers for Countries A and B. What terms of trade would both countries be willing to agree to?
A) One t-shirt for one avocado
B) One t-shirt for 1.5 avocados
C) One t-shirt for 2.5 avocados
D) One t-shirt for 3 avocados

Question

Refer to the figure shown, which represents the production possibilities frontiers for Countries A and B. What terms of trade would both countries be willing to agree to?
A) One t-shirt for one avocado 
B) One t-shirt for 1.5 avocados 
C) One t-shirt for 2.5 avocados 
D) One t-shirt for 3 avocados

Quizplus · Accepted Answer

The terms of trade determine the rate at which countries exchange goods. In this case, Country A has a comparative advantage in producing t-shirts while Country B has a comparative advantage in producing avocados. The slope of each country's production possibility frontier represents the opportunity cost of producing one unit of a good in terms of the other good. Country A's slope is steeper than Country B's slope, which means that Country A has a higher opportunity cost of producing avocados. Therefore, Country A would be willing to trade one t-shirt for less than one avocado. On the other hand, Country B has a lower opportunity cost of producing avocados, so it would be willing to trade less than one avocado for one t-shirt. The correct answer is B, one t-shirt for 1.5 avocados, which falls between the opportunity cost ratios of both countries.

Refer to the Figure Shown, Which Represents the Production Possibilities