Absolute advantage


Absolute advantage

"The principle of comparative advantage", generally attributed to David Ricardo in his 1817 "Principles of Political Economy and Taxation" extends the range of possible mutually beneficial exchanges. It is not necessary to have an absolute advantage to gain from trade, only a comparative advantage. This means that one need only to be able to make something at a lower cost,in terms of other goods sacrificed, to oneself to gain from trade.

The economist Paul Craig Roberts notes that the comparative advantage principles developed by David Ricardo do not hold where the factors of production are internationally mobile. [ Roberts, Paul Craig (August 7, 2003). [http://www.newsmax.com/archives/articles/2003/8/6/132901.shtml Jobless in the USA] "Newsmax". Retrieved on May 6, 2007Limitations to the theory may exist if there are single kind of utility. The very fact that people want food and shelter already indicates that multiple utilities are present in human desire. The moment the model expands from one good to multiple goods, the absolute may turn to a comparative advantage. However, pure labor arbitrage, where one country exploits the cheap labor of another, would be a case of absolute advantage that is not mutually beneficial. [See Roberts, Loc. cit.]

The two concepts have applications outside international trade, though this is where they are most commonly used. Suppose that two castaways "on a desert island gather both fruit and grain, which they then share equally between them. Suppose that Castaway A can gather more fruit per hour than Castaway B, and therefore has an absolute advantage in this good. Nonetheless, it may well make sense for A to leave some fruit-gathering to B. This is because it is possible that B gathers fruit slightly slower than A, but gathers grain extremely slowly.] One needs to look at comparative advantage rather than absolute advantage, to discover how A and B can each best allocate their effort. If A's initial advantage over B in grain-gathering is greater than his or her advantage in fruit-gathering, then fruit-effort should be transferred from A to B, to the point where A's comparative advantages in the two goods are equal. Thus it may be rational for fruit to flow from B to A, despite A's absolute advantage.

Examples

Example 1

Country A can produce one widget using one unit of labour.

Country B can produce one widget using two units of labour.

Country A has an absolute advantage over Country B in producing widgets.

Example 2

Country A has 100 units of labor. It uses 20 to produce 80 units of Parachutes, and 80 to produce 20 units of Barbie dolls."Country B has 100 units of labor. It uses 40 to produce 100 units of Barbie dolls, and 60 to produce 20 units of Parachutes.

If the countries maximized their potential, Country A could produce 400 units of Parachutes, and country B could produce 250 units of Barbie dolls. Through trade, the two countries would achieve a more efficient allocation of resources and increase their prosperity.

A country has an absolute advantage over another in producing a good, if it can produce that good using fewer resources than another country. For example if one unit of labor in Scotland can produce 80 units of wool or 20 units of wine; while in Spain one unit of labor makes 50 units of wool or 75 units of wine, then Scotland has an absolute advantage in producing wool and Spain has an absolute advantage in producing wine. Scotland can get more wine with its labor by specializing in wool and trading the wool for Spanish wine, while Spain can benefit by trading wine for wool. (Adam Smith, "Wealth of Nations", Book IV, Ch.2.) The benefits to nations from trading are the same as to individuals: trade permits specialization, which allows resources to be used more productively.

Notes

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ee also

*On the Principles of Political Economy and Taxation


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