Comparative advantage
It can be argued that world output would increase when the principle of comparative
advantage is applied by countries to determine what goods and services they should
specialise in producing. Comparative advantage is a term associated with 19th
Century English economist David Ricardo.
Ricardo considered what goods and services countries should produce, and
suggested that they should specialise by allocating their scarce resources to
produce goods and services for which they have a comparative cost advantage.
There are two types of cost advantage – absolute, and comparative.
Absolute advantage means being more productive or cost-efficient than another
country whereas comparative advantage relates to how much productive or cost
efficient one country is than another.
Example
In order to understand how the concept of comparative advantage might be applied
to the real world, we can consider the simple example of two countries producing
only two goods – motor cars and commercial trucks.
Comparative advantage
Using all its resources, country A can produce 30m cars or 6m trucks, and country B
can produce 35m cars or 21m trucks. This can be summarised in a table.
In this case, country B has the absolute advantage in producing both products, but it
has a comparative advantage in trucks because it is relatively better at producing
them. Country B is 3.5 times better at trucks, and only 1.17 times better at cars.
, However, the greatest advantage – and the widest gap – lies with truck production,
hence Country B should specialise in producing trucks, leaving Country A to produce
cars.
Economic theory suggests that, if countries apply the principle of comparative
advantage, combined output will be increased in comparison with the output that
would be produced if the two countries tried to become self-sufficient and allocate
resources towards production of both goods. Taking this example, if countries A and
B allocate resources evenly to both goods combined output is: Cars = 15 + 15 = 30;
Trucks = 12 + 3 = 15, therefore world output is 45 m units.
It can be argued that world output would increase when the principle of comparative
advantage is applied by countries to determine what goods and services they should
specialise in producing. Comparative advantage is a term associated with 19th
Century English economist David Ricardo.
Ricardo considered what goods and services countries should produce, and
suggested that they should specialise by allocating their scarce resources to
produce goods and services for which they have a comparative cost advantage.
There are two types of cost advantage – absolute, and comparative.
Absolute advantage means being more productive or cost-efficient than another
country whereas comparative advantage relates to how much productive or cost
efficient one country is than another.
Example
In order to understand how the concept of comparative advantage might be applied
to the real world, we can consider the simple example of two countries producing
only two goods – motor cars and commercial trucks.
Comparative advantage
Using all its resources, country A can produce 30m cars or 6m trucks, and country B
can produce 35m cars or 21m trucks. This can be summarised in a table.
In this case, country B has the absolute advantage in producing both products, but it
has a comparative advantage in trucks because it is relatively better at producing
them. Country B is 3.5 times better at trucks, and only 1.17 times better at cars.
, However, the greatest advantage – and the widest gap – lies with truck production,
hence Country B should specialise in producing trucks, leaving Country A to produce
cars.
Economic theory suggests that, if countries apply the principle of comparative
advantage, combined output will be increased in comparison with the output that
would be produced if the two countries tried to become self-sufficient and allocate
resources towards production of both goods. Taking this example, if countries A and
B allocate resources evenly to both goods combined output is: Cars = 15 + 15 = 30;
Trucks = 12 + 3 = 15, therefore world output is 45 m units.
