Question

Comparative advantage is one of the most prolific topics in international trade. Describe comparative advantage and give an example of this theory. Does the theory work or not and why?

Answer 1

The comparative advantage theory shows that how one country who does not have enough resources to produce a greater amount of goods and services than the other country can still produce the good in which it has a comparative advantage in than the other country and so, gain from the international trade.

Let's take an example of two countries A and B who produce two goods such as tea and coffee

Country	Tea	Coffee
A	10	15
B	5	10

From the above table. we can see that Country A has an absolute advantage in the production of both goods as it is able to produce more of both the goods than country B.

Here,we will have to find the opportunity cost for both the goods in terms of one another.

Country A:

OC of producing 1 tea = 15/10 = 1.5 coffee

OC of producing 1 coffee = 10/15=0.6 tea

Country B:

OC of producing 1 tea = 10/5=2 coffee

OC of producing 1 coffee = 5/10 =0.5 tea

So,we can see that Country A has a comparative advantage in producing tea and Country B which does not have an absolute advantage but still has a comparative advantage in producing Coffee as it takes lesser amount of tea that is 0.5 units of tea to sacrifice to produce coffee than country A which is sacrificing 0.6 amount to produce 1 coffee.

In this way, Country B will specialize in the production of coffee and Country A will specialize in the production of Tea and export them in exchange for the good they do not have a comparative advantage in and in this process they both will gain from international trade.

So, the theory of comparative advantage works in the international market as both countries will utilize their resources to produce the good they have a comparative advantage in and increase their consumption from engaging in trade.