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ABSOLUTE ADVANTAGE

AND COMPARATIVE ADVANTAGE

Absolute Advantage of English : Textile and French : Wine .ABSOLUTE ADVANTAGE  Adam Smith denied mercantilist assumption (Zero-sum trade)  Countries differ in their ability to produce goods efficiently  English – Superior manufacturing process. world's most efficient textile manufacturers  French – combination of favorable climate. and accumulated expertise. good soils. world’s most efficient wine industry  So.

both countries benefit by engaging in trade  Ex : Ghana and South Korea  Net Result : Positive Sum Game . countries should specialize in the production of goods for which they have an absolute advantage and then trade these for goods produced by other countries  Country should never produce goods at home that it can buy at a lower cost from other countries  By specializing in the production of goods in which each has an absolute advantage. net gains for all involved . According to Smith.

Table : Absolute Advantage and the Gains from Trade Resources Required to produce 1 Ton of Cocoa and Rice Cocoa Rice Ghana 10 20 South Korea 40 10 Production and Consumption without Trade Cocoa Ghana 10.0 15.0 South Korea 2.5 Total Production 12.5 Rice 5.0 10.0 .

0 20.0 Consumption after Trade of 6 Tons by each Countries Cocoa Rice Ghana 14.0 0.5 4.0 20.0 6.0 Increase in Consumption as a Result of Specialization and Trade Cocoa Rice Ghana 4.0 1.0 20.0 .0 South Korea 6.0 South Korea 3.Ghana South Korea Total Production Production with Specialization Cocoa 20.0 Rice 0.0 14.

COMPARATIVE ADVANTAGE  David Ricardo took Adam Smith’s theory one step further  What might happen when one country has an absolute advantage in the production of all goods  Ex : Ghana and South Korea  Ghana : Efficient in the production of both cocoa and rice .

5 5.0 12.5 Rice 7.33 South Korea 40 20 Production and Consumption without Trade Cocoa Ghana 10.5 Total Production 12.0 South Korea 2.Table : Comparative Advantage and the Gains from Trade Resources Required to produce 1 Ton of Cocoa and Rice Cocoa Rice Ghana 10 13.5 .

0 0.0 15.75 10.0 7.0 Rice 3.75 Consumption after Trade of 4 Tons by each Countries Cocoa Rice Ghana 11.0 .75 South Korea 4.Ghana South Korea Total Production Production with Specialization Cocoa 15.5 1.0 13.0 0.25 South Korea 1.0 6.0 Increase in Consumption as a Result of Specialization and Trade Cocoa Rice Ghana 1.

Basic message of comparative advantage theory is : “Potential world production is greater with unrestricted free trade than it is with restricted trade” .