DIFFERENCES BETWEEN ABSOLUTE AND COMPARATIVE ADVANTAGE Absolute advantage and Comparative advantage are two words that

are often encountered in economics,especially international trade. People are often confused between the differences between the two concepts and look for clarifications. This article tries to make the two concepts clear by highlighting the difference between absolute and comparative advantage. Absolute advantage Advantage refers to a situation when a person, group or a nation can produce a particular product with more economy than others. Of course this statement is very general as there can be labor advantage (labor could be cheap or inexpensive), or capital advantage. Absolute advantage is a term that is used when one country can produce more number of a particular item with same resources than any other country. If this particular item is produced by only one country, then mutually beneficial trade is impossible. Taking an example, it can be said that Zambia is a country that has an absolute advantage over other countries as far as copper production is concerned. This is because of a natural phenomenon as the country has the largest reserves of copper or its oxide known as Bauxite. So, absolute advantage is a situation that occurs when a nation is able to produce some goods at a cost lower to other countries with all other factors being equal. The concept of absolute advantage was propounded by Adam smith when talking about international trade. Comparative advantage The concept of comparative advantage is of great significance in international trade. A country is said to have comparative advantage over other countries if it is producing goods and services at a lower opportunity cost. Opportunity cost of a particular item is defined as the amount that is sacrificed to make another unit of that particular item. This theory suggests that if a country has an advantage over other countries in the production of some goods and services, it should confine itself in producing these goods and services only and should import other goods and services in which the country is inefficient. The theory of comparative advantage was first explained by Robert Torrens in 1815. Summary Absolute advantage is the advantage of one country over another if it can produce higher number of goods with the same resources than other countries. On the other hand, comparative advantage is the ability of a country to make a particular item better than other countries. Under absolute advantage, mutually beneficial trade is not possible, comparative advantage provides for mutually beneficial trade between countries. Opportunity cost is a factor that is taken into consideration when talking about comparative advantage, while it is only cost that is a factor when absolute advantage is talked about.

A SIMPLIFIED DEMONTRATION Assumptions: 1. Both countries require both product 2. There are 10 units of capital available for investment in both countries (capital is listed in the matrix in italics) 3. For each unit of capital invested each country can produce the number of units of each product listed in the matrix in bold 4. NOTE: FRANCE HAS THE ABSOLUTE ADVANTAGE IN BOTH PRODUCTS

Scenario one: No trade Explanation: since the countries cannot trade both split their capital and invest five units in each product Country\product England France Total (both countries) Corn 8 x 5 = 40 9 x 5 = 45 95 Wheat 4 x 5 = 20 10 x 5 = 50 70 Total (both products) 60 95 155

Results: The total production in England is 60 units, in France is 95 units, and Combined is 155 units.

Scenario two: Free trade with capital immobility (Comparative advantage) Explanation: Since the countries can trade each looks for the product in which they have a COMPARATIVE ADVANTAGE. Note: Although France has the absolute advantage in both products Frances advantage is greater in wheat and it is said to have a comparative advantage in wheat. Englands disadvantage in corn is less than its disadvantage in wheat so it has a comparative advantage in corn. Both countries then invest all their capital in the product in which they have a COMPARATIVE ADVANTAGE.

Country\product England France Total (both countries)

Corn 8 x 10 = 80 9x0=0 80

Wheat 4x0=0 10 x 10 = 100 100

Total (both products) 80 100 180

Results: The total production in England goes up to 80, in France goes up to 100, and Combined goes up to 180 Free trade with comparative advantage is better for BOTH England and France DESPITE Frances absolute advantage.

Scenario three: Free trade with capital mobility (Absolute advantage) Explanation: Since capital is free to move and invest in any country the investors look for places and products with an absolute advantage Note: Since France is better at both products all investment leaves England and invests in France (Why would an investor be satisfied yielding 8 units of corn per unit of capital in England when they could yield 9 units of corn per unit of capital in France).

Country\product England France Total (both countries)

Corn 8x0=0 9 x 10 = 90 90

Wheat 4x0=0 10 x 10 = 100 100

Total (both products) 0 190 190

Results: The total production in England goes to 0, in France goes up to 190, and Combined goes up to 190. Free trade with capital mobility increases the total economic product and is certainly very good for the better situated country, but is terrible for the poorer situated country.

CONCLUSIONS: Free trade with immobile capital is better for both countries than no trade because capital will seek out comparative advantage. However if capital is mobile it will follow absolute advantage. David Ricardo demonstrated that every country will have a comparative advantage at something, but every country is not guaranteed to have an absolute advantage at something. Therefore free trade with capital mobility is not guaranteed to benefit every country. When a country finds themselves in the situation faced by England in scenario three the only choice it has is to lower its standards of social and environmental protection to gain an absolute advantage and attract investment. Thus the countries are compelled to engage in STANDARDS LOWERING COMPETITION.

REFFERNCES: Irwin, Douglas A. 1996. Against the Tide: An Intellectual History of Free Trade.Princeton: Princeton University Press. Smith, Adam. 1776. An Inquiry into the Nature and Causes of the Wealth of Nations, The Glasgow edition of the works and correspondence of Adam Smith, edited by R.H. Campbell and A.S. Skinner, 1981, Liberty Press. Schumpeter, Joseph A. 1954. History of economic analysis. Twelfth printing, 1981, George Allen & Unwin. Trefler, Daniel. 1995. "The Case of the Missing Trade and Other Mysteries." American Economic Review 85: 1029-1046