ComparItIve Advantage

n economIcs, the law of comparatIve advantage says that two countrIes (or other kInds of
partIes, such as IndIvIduals or fIrms) can both gaIn from trade If, In the absence of trade,
they have dIfferent relatIve costs for producIng the same goods. Even If one country Is more
effIcIent In the productIon of all goods (absolute advantage) It can stIll gaIn by tradIng wIth
a lesseffIcIent country, as long as they have dIfferent relatIve effIcIencIes.
For example, If, usIng machInery, a worker In one country can produce both shoes and shIrts
at 6 per hour, and a worker In a country wIth less machInery can produce eIther 2 shoes or 4
shIrts In an hour, each country can gaIn from trade because theIr Internal tradeoffs
between shoes and shIrts are dIfferent. The lesseffIcIent country has a comparItIve
advantage In shIrts, so It fInds It more effIcIent to produce shIrts and trade them to the
moreeffIcIent country for shoes. WIthout trade, Its cost per shoe was 2 shIrts; by tradIng,
Its cost per shoe can reduce to as low as 1 shIrt dependIng on how much trade occurs (sInce
the moreeffIcIent country has a 1:1 tradeoff). The moreeffIcIent country has a
comparatIve advantage In shoes, so It can gaIn In effIcIency by movIng some workers from
shIrtproductIon to shoeproductIon and tradIng some shoes for shIrts. WIthout trade, Its cost
to make a shIrt was 1 shoe; by tradIng, Its cost per shIrt can go as low as 1/2 shoe dependIng
on how much trade occurs.
The net benefIts to each country are called the gaIns from the trade.

ExampIe:-
Two men lIve alone on an Isolated Island. To survIve they must undertake a few basIc
economIc actIvItIes lIke water carryIng, fIshIng, cookIng and shelter constructIon and
maIntenance. The fIrst man Is young, strong, and educated. He Is also faster, better, and
more productIve at everythIng. He has an absolute advantage In all actIvItIes. The second
man Is old, weak, and uneducated. He has an absolute dIsadvantage In all economIc
actIvItIes. n some actIvItIes the dIfference between the two Is great; In others It Is small.
0espIte the fact that the younger man has absolute advantage In all actIvItIes, It Is not In
the Interest of eIther of them to work In IsolatIon sInce they both can benefIt from
specIalIzatIon and exchange. f the two men dIvIde the work accordIng to comparatIve
advantage then the young man wIll specIalIze In tasks at whIch he Is most productIve, whIle
the older man wIll concentrate on tasks where hIs productIvIty Is only a lIttle less than that
of the young man. Such an arrangement wIll Increase total productIon for a gIven amount of
labor supplIed by both men and It wIll benefIt both of them.

AbsoIute advantage
n economIcs, prIncIple of absolute advantage refers to the abIlIty of a party (an IndIvIdual,
or fIrm, or country) to produce more of a good or servIce than competItors, usIng the same
amount of resources. Adam SmIth fIrst descrIbed the prIncIple of absolute advantage In the
context of InternatIonal trade, usIng labor as the only Input.
SInce absolute advantage Is determIned by a sImple comparIson of labor productIvItIes, It Is
possIble for a party to have no absolute advantage In anythIng; In that case, accordIng to the
theory of absolute advantage, no trade wIll occur wIth the other party.

t can be contrasted
wIth the concept of comparatIve advantage whIch refers to the abIlIty to produce a
partIcular good at a lower opportunIty cost.

The maIn concept of absolute advantage Is generally attrIbuted to Adam SmIth for hIs 1776
publIcatIon An nquIry Into the Nature and Causes of the Wealth of NatIons In whIch he
countered mercantIlIst Ideas.

SmIth argued that It was ImpossIble for all natIons to become
rIch sImultaneously by followIng mercantIlIsm because the export of one natIon Is another
natIon's Import and Instead stated that all natIons would gaIn sImultaneously If they
practIced free trade and specIalIzed In accordance wIth theIr absolute advantage. SmIth also
stated that the wealth of natIons depends upon the goods and servIces avaIlable to theIr
cItIzens, rather than theIr gold reserves. WhIle there are possIble gaIns from trade wIth
absolute advantage, the gaIns may not be mutually benefIcIal. ComparatIve advantage
focuses on the range of possIble mutually benefIcIal exchanges.

ExampIes:-

O !arty A can produce 5 wIdgets per hour wIth J employees.
O !arty 8 can produce 10 wIdgets per hour wIth J employees.

!arty 8 has the absolute advantage.

AssumIng that the employees of both partIes are paId equally, !arty 8 has an absolute
advantage over !arty A In producIng wIdgets per hour. ThIs Is because !arty 8 can produce
twIce as many wIdgets as !arty A can wIth the same number of employees.

ExampIe 2
O Country A can produce 1000 parts per hour wIth 200 workers.
O Country 8 can produce 2500 parts per hour wIth 200 workers.
O Country C can produce 10000 parts per hour wIth 200 workers.
Country C has the absolute advantage.
ConsIderIng that labor and materIal costs are all equIvalent, Country C has the absolute
advantage over both Country 8 and Country A because It can produce the most parts per
hour at the same cost as other natIons. Country 8 has an absolute advantage over Country A
because It can produce more parts per hour wIth the same number of employees. Country A
has no absolute advantage because It can't produce more goods than eIther Country 8 or
Country C gIven the same Input.