This Buzzle article will explain the difference between absolute and comparative advantage, both of which are important principles related to international trade.
Keep In Mind
An economic producer can display a comparative advantage in the production of a particular product or item even when the other producer happens to have an absolute advantage in producing the same product. This is due to the levels of productivity of the goods under consideration.
Absolute and comparative advantage are two important economic terms that are relevant to international trading strategies of different countries around the globe. While the former refers to the capability of a firm (or country) to produce a better commodity/service than its counterparts, using the same number of resources as they do, the latter refers to the capability of a firm (or country) to produce a commodity/service at a lower opportunity cost than its counterparts. The absolute vs. comparative advantage write-up below will further try to explain the differences between the two.
- It is the ability to excel at producing goods more efficiently using the same material.
- This term is applicable to a person, firm, organization, country, etc., as a whole. For instance, if one says, Susan has an absolute advantage at cooking meatballs, it means that she can cook meatballs much better than the others while using the same number of ingredients.
- This concept or term is believed to have been coined by Adam Smith in 1776.
- It has been observed to benefit trade, but the gains may not be beneficial mutually.
Consider a real-time example. Say there are two countries, X and Y. X is adept at manufacturing cotton garments due to the abundance of cotton production, skilled labor, and suitable climate. The same advantages are not available to Y. In such a case, X has an absolute advantage over Y, in a manner that it can produce cotton garments much more efficiently and at a lower cost than Y. Thus, it would be beneficial for Y to import cotton garments from X. Similarly, if Y specializes in mango production, it would have an absolute advantage over X, and X would need to import the same from Y. The long and short of it is that the trade is not very beneficial mutually.
Consider 2 small-scale factories, A and B, that manufacture candle stands. Let each of them have 5 employees, an equal amount of wood, tools, and other raw materials. Now, if A produces 10 candle stands and B produces 5 per hour, A is said to have an absolute advantage over B.
A country, firm, or an individual can have an absolute advantage in more than one product; however, experts advise against putting the same into practice. Let’s hypothesize. For instance, if France can produce 100 bottles of perfume and 80 gallons of wine in a month using 150 workers. Italy produces 70 bottles of perfume and 80 gallons of wine in the same period, using the same number of workers. Now, even though France has an absolute advantage in both products, it would be more prudent to let Italy manufacture wine, since France is super-skilled and naturally blessed for the production of perfume. Thus, if both nations would prefer manufacturing products they specialize in and import the ones for which the productivity is not as good as the other, they would both progress.
- It is the ability to excel at producing goods at a lesser opportunity cost than the rest.
- Again, it can be applicable to people or companies or nations. For instance, if John is adept at making paper crafts by using just sufficient paper and thereby reduces the overall cost, he is said to have a comparative advantage over the others.
- This theory is believed to have been developed by David Ricardo in 1817.
- It has been observed to obtain mutual gains in international trade.
The most common example would be regarding two countries and two products. Let’s say country X manufactures 100 T-shirts and 50 skirts in an hour, while country Y manufactures 60 T-shirts and 120 skirts in an hour. In this case, both X and Y have a comparative advantage―X can produce T-shirts at a lower opportunity cost, while Y can do the same in case of skirts. If these two items are imported and exported between the two countries, the trade would be mutually beneficial. The factor here is not the item, but the opportunity cost it is getting produced at.
Consider the second example of the previous post. In the same scenario, if B compromises on the available resources and still manages to produce an equal number of candle stands as A does, B is said to have a comparative advantage over A.
One can have a comparative advantage at something even if he/she is not completely skilled in it. Consider a very random and uncomplicated instance. Say, a woman has opened a boutique. Initially, since she is starting out, she would have to do all the tasks herself, this includes writing accounts, making bills, folding clothes, etc. Very soon she would be efficient and skilled in these tasks too, along with being a good boutique owner and salesperson for her customers. As the business progresses, she will have established loyal clients, and consequently, she will hire a clerk to help her with her extra work. Now, in this case, the clerk may or may not be as skilled as the owner in keeping accounts, yet, since the latter is concentrating on the task she specializes in, the clerk has a comparative advantage over her. This would be an economist’s viewpoint.
Factors of Differentiation
|Absolute Advantage||Comparative Advantage|
|It occurs when a country produces better goods and services better than its competitors using the same amount of resources.||It occurs when a country produces goods and services at a lower opportunity cost than its competitors.|
|It represents a condition wherein the trade between 2 countries is not mutually beneficial.||It represents a condition wherein the trade between two countries definitely gives rise to mutual benefits.|
|While cost is an essential point here and this term manifests its efficiency with reduced costs, it is important to note that it does not involve opportunity costs. It considers only productivity of goods, no measure concerning cost is used.||Its significant factor is the lowering of opportunity costs. Opportunity cost refers to the amount you have to pay in order to obtain something.|
|It is not mutual or reciprocal.||It is mutual and reciprocal.|
The difference between absolute and comparative advantage varies with circumstances and different scenarios. While distinguishing between the two, it is essential to remember that theoretical study is way different from the practical implementation of these concepts in trade specialization. Also, you need to consider some underlying factors, some of which include the points that no nation is exclusive in manufacturing a particular product, the production of certain materials in some nations are always more efficient than the others, some nations might be adept at manufacturing some products but may not have enough income for transporting them, etc. Therefore, international trade and global business can be better understood when the above two dynamic terms are compared on an equal platform.