Absolute Advantage Vs Comparative Advantage
Absolute advantage and comparative advantage are two important concepts in international trade that largely influence how and why nations devote limited resources to the production of particular goods. They describe the basic economic benefits that countries get from trading with one another. Absolute advantage is a condition in which a country can produce particular goods at a lower cost in comparison to another country. On the other hand, comparative advantage is a condition in which a country produces particular goods at a lower opportunity cost in comparison to other countries.
Adam Smith first introduced the concept of absolute advantage in his famous 1776 book The Wealth of Nations, which explains what specialization in production and division of labor actually means. As a result, Ricardo later expanded it in his book entitled On the Principles of Political Economy published in 1819, incorporating the theory of comparative advantage as the basis for why nations should trade and why trade is mutually beneficial.
The absolute advantage of a country or individual in the production of a good is if it is superior to that of another country or individual. Basically, an absolute advantage occurs when a company has a competitive advantage over its competitors in providing a good or service in greater quantities at the same cost, or at a lower cost. Absolute advantage, as developed by Adam Smith, can give rise to large gains from trade between producers of different goods.
Producers who specialize, distribute labor, and trade can always gain more than producers and consumers working separately. It can be contrasted with comparative advantage, which is the ability to produce goods and services at a lower opportunity cost and not necessarily at greater volume or quality.
Assumptions of Absolute Advantage Theory
- Smith assumed that the costs of the commodities were computed by the relative amounts of labor required in their respective production processes.
- He assumed that labor was mobile within a country but immobile between countries.
- He took into consideration a two-country and two-commodity framework for his analysis.
- He implicitly assumed that any trade between the two countries considered would take place if each of the two countries had an absolutely lower cost in the production of one of the commodities.
Criticisms against Absolute Advantage
- According to the Absolute Advantage Theory, bilateral trade could only take place between nations and only for two commodities. Trade and nations’ needs began to increase, and that assumption was challenged. As a result, the theory did not take into account the multilateral trade that can take place between countries.
- Additionally, the Absolute Advantage Theory assumes free trade between nations. Despite the protectionist measures that countries have adopted, the report failed to consider them. There were several types of protectionist measures, including quantitative restrictions, technical trade barriers, and restrictions related to environmental protection and public policy.
- Eventually, Ricardo developed his own criticisms of Adam Smith’s theory. The Principles of Political Economy and Taxation by Ricardo in 1817 introduced the concept of comparative advantage, a theory designed to explain how agents make their decisions about production by taking opportunity cost into account.
Comparative advantage is a quality that one country or individual has over another country or individual in terms of its ability to produce a good. A comparative advantage is measured by level of efficiency.
A country with limited resources and technology tends to produce goods and services in which they have a comparative advantage. Comparative advantage (from now on CA) refers to the opportunity cost associated with producing one good over another. Because of this, many countries specialize in producing specific products. We call this international division of labor.
Some of the major difference between comparative advantage and absolute advantage are as follows:
Absolute Advantage Vs Comparative Advantage
|Definition||Comparative advantage is a ability of a country to produce particular goods at a lower opportunity cost in comparison to other countries.||Absolute advantage refers to the ability of a country to produce a good more efficiently than other countries with a low marginal cost.|
|Trading||In comparative advantage, trading is mutually beneficial for the two countries.||In absolute advantage, trading is not mutually beneficial for two countries.|
|Volume of goods||A comparative advantage allows a country to produce goods better than another nation with the same amount of resources.||An absolute advantage allows a country to produce a higher volume of goods with a given amount of resources.|
|Consideration||Comparative advantage considers the overall production of a nation during a given time frame.||Absolute advantage considers the advantage of producing numerous goods.|
|Factor Involved||In comparative advantage, the factor involved is opportunity cost.||In absolute advantage, the factor involved is cost.|
|Economic Nature||Comparative advantage is mutual and reciprocal.||Absolute advantage is not mutual or reciprocal.|
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