Comparative / Absolute Advantage and the gains from trade
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Trade
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Buying or selling
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Specialisation
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Everybody gains maximum benefit from doing what they do best and then trading
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Absolute advantage
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Ability to produce more than competitors using the same amount of resources
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Comparative advantage
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Ability to produce at a lower opportunity cost than competitors
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Don't confuse comparative and absolute advantage
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Possible to have comparative advantage with no absolute advantage
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Possible to have absolute advantage with no comparative advantage
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Who has the lower opportunity cost?
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Can be calculated as
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# given up /
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# produced of the alternate
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We give up /
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If we make
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Lowest number = highest comparative advantage
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E.g. Who has advantage out of 0.16 and .33
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0.16
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E.g. Who has advantage out of 6 and 3
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3
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Possible gains include:
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Higher output
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Total production of goods and services is raised
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Variety
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Consumers have access to a greater variety of higher quality products. Eating apples and strawberries instead of just apples.
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A bigger market
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Specialisation and global trade increase the size of the market offering opportunities for economies of scale
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Competition and lower prices:
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Increased competition an incentive to minimise costs, keep prices down and therefore maintains low inflation. Also promotes R & D in new techs.
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