Using a PPF to Illustrate the Benefits of Specialization and Trade

Production possibilities frontiers can be used to illustrate the benefits of specialization and trade. One of the ways a society can become more prosperous is to increase the degree to which it specializes its production in the goods or services it produces relatively well and trades for the other goods and services it needs and wants.

To illustrate this, consider a simple economy with two countries, the United States and China. Consider two products, bicycles and airplanes.

Assume the United States has resources and technology that yield the following production possibilities frontier:If all U.S. resources are devoted to the production of bicycles, it can produce a maximum of 4 million bicycles per year. This is represented in the graph above by point S. Alternatively, if all U.S. resources are devoted to the production of airplanes, it can produce a maximum of 40,000 airplanes per year. This is represented in the graph by point U. If resources are evenly split between the production of bicycles and airplanes, the U.S. could produce 2 million bicycles and 20,000 airplanes at point T. By shifting the allocation of resources between the two industries, the U.S. could produce at any point on or inside its PPF.

Assume China has resources and technology that yield the following production possibilities frontier:If all Chinese resources are devoted to the production of bicycles, it can produce a maximum of 6 million bicycles per year. This is represented in the graph above by point J. Alternatively, if all Chinese resources are devoted to the production of airplanes, it can produce a maximum of 30,000 airplanes per year. This is represented in the graph by point L. If resources are evenly split between the production of bicycles and airplanes, China could produce 3 million bicycles and 15,000 airplanes at point K. By shifting the allocation of resources between the two industries, China could produce at any point on or inside its PPF.

In the absence of trade, each country is forced to consume some combination of products on or inside its production possibilities frontier (PPF). Specialization and trade can improve the standard of living in both countries by allowing each country to consume a combination of products outside its production possibilities frontier. To see this, put the PPFs for the two countries on the same graph as illustrated below:Suppose that in the absence of trade, China produces at point K and the U.S. produces at point T. China produces and consumes 3 million bicycles and 15,000 airplanes. The U.S. produces and consumes 2 million bicycles and 20,000 airplanes.

Now consider the option of complete specialization in both countries. Suppose the U.S. completely specializes in the production of airplanes and produces at point U. This represents the U.S. producing 40,000 airplanes and zero bicycles. Suppose China completely specializes in the production of bicycles and produces at point J. This represents China producing 6 million bicycles and zero airplanes. If the U.S. then exports 20,000 airplanes to China in exchange for 3 million bicycles, both countries can then consume 3 million bicycles and 20,000 airplanes. This is represented in the graph above by point C.

The U.S. produces 40,000 airplanes, but exports 20,000 of them to China. It ends up with 20,000 airplanes. The U.S. produces no bicycles, but imports 3 million of them from China. With specialization and trade, the U.S. consumes 20,000 airplanes and 3 million bicycles.

China produces 6 million bicycles, but exports 3 million of them to the United States. It ends up with 3 million bicycles. China produces no airplanes, but imports 20,000 of them from the United States. With specialization and trade, China consumes 3 million bicycles and 20,000 airplanes.

Both countries are better off than in the absence of trade. Each country is able to consume at a point outside its production possibilities frontier (PPF).

In the absence of trade, China produced and consumed at point K. It had 3 million bicycles and 15,000 airplanes. With specialization and trade, China produces at point J, but consumes at point C. It has 3 million bicycles and 20,000 airplanes. China consumes the same number of bicycles and 5,000 additional airplanes.

In the absence of trade, the United States produced and consumed at point T. It had 2 million bicycles and 20,000 airplanes. With specialization and trade, the U.S. produces at point U, but consumes at point C. It has 3 million bicycles and 20,000 airplanes. The United States consumes an additional 1 million bicycles and the same number of airplanes.

Thus, production possibilities curves can be used to illustrate the benefits of specialization and trade.

Using a PPF to Illustrate the Benefits of Specialization and Trade

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Simple Economic Models - Learning Objectives

After studying this module, you should be able to:
• define paper airplane models.
• draw, label, and explain a circular-flow diagram.
• illustrate opportunity costs using a production possibilities frontier (PPF) diagram.
• illustrate unemployment using a PPF diagram.
• illustrate full employment using a PPF diagram.
• illustrate production inefficiencies using a PPF diagram.
• illustrate the effect of changes in resources or technology on a PPF.
• illustrate the benefits of specialization and trade using a PPF diagram.

The Economic Perspective on Trade

Economists believe trade can make everyone better off. Trade is the exchange of goods and services for other products, money, or other compensation. Everyone involved in an exchange transaction can benefit from it. One of the ways a person or country can become wealthy is to trade a lot.

Different opinions about trade create some of the strongest economic controversies. For centuries, however, economists have argued that trade is a primary source of wealth and prosperity and is beneficial to all trading partners.

One of the greatest benefits of trade is that it allows specialization. Specialization is concentration on the production of particular goods and services. If a person or country engages in trade, then it no longer needs to produce everything it needs or wants. Instead, it can focus its energies on activities it does especially well and trade for the other things it needs or wants.

Three of the basic needs in life are food, clothing and shelter. If people are especially skilled at making clothes, for example, they can then make more clothes than they need and trade the extra clothes for other things, such as food and shelter. Similarly, people who are skilled at growing food can trade food for clothes and shelter. People who are skilled at building houses can trade them for food and clothes. When people specialize and trade, it is possible for everyone to benefit.

Consider the following simple example of the benefits of specialization and trade. Suppose two people, Robinson Crusoe and Friday, are stranded on an island. They can survive with the rags they wear and by scavenging for food, but both would prefer to have a new set of clothes each month and to eat cultivated food every day. While working for a month, suppose Crusoe can make two sets of clothes (shirts and trousers) if he spends all his available time making clothes. Alternatively, if Crusoe spends his time cultivating food, the best he could do is grow enough food to feed one person for two weeks. If Crusoe splits his month’s labor between the two activities, he could make one set of clothes and grow enough food to feed one person for one week.

Suppose Friday has a different set of talents. While working for a month, suppose Friday can make only one half of a set of clothes (just the trousers, perhaps) if he spends all of his available time making clothes. Alternatively, if Friday spends all his time cultivating food, then he could grow enough to feed two people for a month. If Friday splits his month’s labor between the two activities, then he could make one quarter of a set of clothes (half a shirt, perhaps) and enough food to feed one person for the entire month.


Output if his labor for the entire month is devoted to making clothes Output if he equally splits his labor for the month between making clothes and growing food Output if his labor for the entire month is devoted to growing food
Robinson Crusoe 2 sets of clothes
(no food is grown) 1 set of clothes and food for one person for one week food for one person for two weeks
(no clothes are made)
Friday 1/2 of a set of clothes
(no food is grown) ¼ of a set of clothes and food for one person for a month food for two people for a month
(no clothes are made)
Table 1. Specialization and Trade Allow an Economy to Produce and Consume More Output Than in the Absence of Trade.


If Crusoe and Friday do not trade, then they must produce their own food and clothing. Depending on how he allocates his labor, Crusoe could make two sets of clothes and no cultivated food, one set of clothes and enough food for one week, no new clothes and enough food for two weeks, or another similar combination . Depending on how he allocates his labor, Friday could make one half set of clothes and no cultivated food, one quarter set of clothes and enough food to feed one person for one month, no new clothes and enough food to feed two people for the entire month, or another similar combination. In the absence of trade, neither person is able to have a new set of clothes each month and enough cultivated food for the entire month.

If Crusoe and Friday specialize and trade, however, then each person can have a new set of clothes each month and enough cultivated food to satisfy their needs. This occurs if Crusoe completely specializes in making clothes and Friday completely specializes in growing food. Every month Crusoe would make two sets of clothes and Friday would grow enough food to feed two people for the entire month. If Crusoe trades one set of clothes for a month’s supply of food, both men have a new set of clothes each month and enough cultivated food to satisfy them every day. Because of their different skills in making clothes and growing food, it is impossible for them to obtain this level of satisfaction in the absence of specialization and trade.

A similar argument can be made for trade between countries. What complicates it from a social policy standpoint, however, is that the process of specialization requires a country to shift resources into activities that a country does relatively well (such as manufacturing computers or other high technology equipment) and shift resources away from activities that another country may do relatively better (such as manufacturing steel, textiles, or furniture). The country as a whole benefits from the availability of cheaper foreign products. Some individuals lose their jobs, careers, and way of life in the process, however. The government attempts to lessen the hardships imposed on these individuals by providing them with financial assistance, education, training, and help in finding new jobs. Trade adjustment assistance is a federal program that provides financial assistance to those injured by import competition.

Trade is another area where people ignore tradeoffs. Workers and politicians often decry the loss of American jobs to manufacturers in foreign countries. Keeping those jobs in the United States typically results in higher prices for the products or higher taxes to provide government subsidies to those industries, however. If foreigners produce a product more cheaply than Americans, the way to convince consumers to buy the American product is to raise the price of the foreign products through import taxes, or to lower the price of the American product through tax-funded subsidies. Politicians typically only discuss part of the issue when they say they will protect American jobs. They usually fail to mention the costs to consumers and taxpayers.

The benefits of specialization and trade are explained more fully in module 11 (The Evolution of Trade Theory).

Trade Adjustment Assistance is explained more fully here.

Footnote: As Crusoe devotes more time to one activity, he must sacrifice what he could have produced in the other activity with that time.