KEY POINTS

1. A country has comparative advantage in producing a good when the country’s opportunity cost of producing the good is lower than the opportunity cost of producing the good in another country.
2. The pattern of trade between countries is determined by comparative advantage. This means that even countries with poor technologies can export the goods in which they have comparative advantage.
3. All countries experience gains from trade. That is, the utility of an importing or exporting country is at least as high as it would be in the absence of international trade.
4. The level of wages in each country is determined by its absolute advantage; that is, by the amount the country can produce with its labor. This result explains why countries with poor technologies are still able to export: their low wages allow them to overcome their low productivity.
5. The equilibrium price of a good on the world market is determined at the point where the export supply of one country equals the import demand of the other country.
6. A country’s terms of trade equal the price of its export good divided by the price of its import good. A rise in a country’s terms of trade makes it better off because it is exporting at higher prices or importing at lower prices.