Question

Please, provide a specific example of comparative advantage.

a) Select a product, good or service

b) Demonstrate absolute advantage in your selected product

c) Demonstrate comparative advantage in your selected product

d) Explain why the practical application of your example could be controversial.

Answer 1

a) Let us consider that there are two products :

- Widget and Cloth.

There are two countries : Home and Foreign. Both countries produce both the goods.

Assumption: Only Labour is used to produce the goods in both countries.

Let us consider the economy to be like the following table

good produced per unit labour	Widget	Cloth
HOME	100	200
FOREIGN	60	30

b) Absolute advantage refers to the ability of a country/person to produce a greater quantity of a good,product using same amount of resource.

As we can see from the example above, Home produces more Widgets and Cloth per unit of labour as compared to Home. So, according to the definition of Absolute advantage, HOME has ABSOLUTE ADVANTAGE over FOREIGN in both goods.

Widgets: 100>60 and Cloth: 200>30

c) Opportunity cost (OC) is defined as the amount of a commodity given up to consume another commodity.

Comparative advantage is the ability to produce a good more efficiently than others i.e. country with lower OC in producing a good with respect to the other goods is more efficient in producing that good.

OC for Home in terms of  widgets = 200/100 = 2

OC for Foreign widgets = 30/60 = 0.5

As clearly seen, OC is lower for FOREIGN in terms of widgets. Thus, foreign has comparative advantage in widgets. Thus, automatically home has comparative advantage in cloth.

VALIDATION

OC for Home in terms of cloth 100/200 = 0.5

OC for Foreign cloth = 60/30 = 2

As clearly seen, OC is lower for HOME in terms of cloth. Thus, home has comparative advantage in widgets.

d) In reality, there is more than one input required for production of good and thus OC is difficult to calculate. There is also transaction costs and transportation costs that may result in OC not being visible enough. Also, there are restrictions on trade via tariffs and quotas.