Comparative advantage
Comparative advantage is a term economists use, especially in international trade. A country has a comparative advantage when it can make goods or services at a lower opportunity cost than another country.[1]
Ricardo's example
For example, during the Industrial Revolution, England and Portugal both made wine and cloth.
| Country \ Produce | Cloth | Wine |
|---|---|---|
| England | 100 | 120 |
| Portugal | 90 | 80 |
Suppose the number shows the number of hours required to create one piece of cloth or one crate of wine. In 100 hours, England can either make 1 unit of cloth or 5/6 units of wine. Meanwhile in 90 hours Portugal can make 1 unit of cloth or 9/8 units of wine. Portugal has an absolute advantage in both. However England's opportunity cost of 5/6 is lower than Portugal's OC 9/8. Hence England has a comparative advantage in cloth-making.
David Ricardo predicted that Portugal would stop making cloths and England would stop making wine. That did happen.[2]
Theory predicts that even if one country can produce all good more efficiently than another, trade will make both better off if they specialize in the goods they have a comparative advantage in.
This theory also says that protectionism (raising tariffs or blocking trade from other countries) does not work in the long run.[2]
Comparative Advantage Media
David Ricardo
Graph illustrating Ricardo's example:In case I (diamonds), each country spends 3600 hours to produce a mixture of cloth and wine.In case II (squares), each country specializes in its comparative advantage, resulting in greater total output.
The demand for cloth relative to wine decreases with the relative price of cloth in terms of wine; the supply RS of cloth relative to wine increases with relative price. Two relative demand curves RD_1 and RD_2 are drawn for illustrative purposes.
The blue triangle depicts Home's original production (and consumption) possibilities. By trading, Home can also consume bundles in the pink triangle despite facing the same productions possibility frontier.
Related pages
References
- ↑ Maneschi, Andrea 1998. Comparative advantage in international trade: a historical perspective. Cheltenham: Elgar. p. 1.
- ↑ 2.0 2.1 Amadeo, Kimberly. "Understanding Comparative Advantage". The Balance. Retrieved 2019-07-18.
Other websites
- What Is Comparative Advantage? | The Street
- Comparative advantage and when to blow up your island
- Ricardo's Difficult Idea, Paul Krugman's 1996 exploration of why non-economists don't understand the idea of comparative advantage
- What is comparative advantage? | Investopedia
