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The theory of comparative advantage explains why countries trade: they have different comparative advantages. It shows that the gains from international trade result from pursuing comparative advantage and producing at a lower opportunity cost. The following Work It Out feature shows how to calculate absolute and comparative advantage and the way to apply them to a country’s production.

Calculating absolute and comparative advantage

In Canada a worker can produce 20 barrels of oil or 40 tons of lumber. In Venezuela, a worker can produce 60 barrels of oil or 30 tons of lumber.

Country Oil (barrels) Lumber (tons)
Canada 20 or 40
Venezuela 60 or 30
  1. Who has the absolute advantage in the production of oil or lumber? How can you tell?
  2. Which country has a comparative advantage in the production of oil?
  3. Which country has a comparative advantage in producing lumber?
  4. In this example, is absolute advantage the same as comparative advantage, or not?
  5. In what product should Canada specialize? In what product should Venezuela specialize?

Step 1. Make a table like [link] .

Step 2. To calculate absolute advantage, look at the larger of the numbers for each product. One worker in Canada can produce more lumber (40 tons versus 30 tons), so Canada has the absolute advantage in lumber. One worker in Venezuela can produce 60 barrels of oil compared to a worker in Canada who can produce only 20.

Step 3. To calculate comparative advantage, find the opportunity cost of producing one barrel of oil in both countries. The country with the lowest opportunity cost has the comparative advantage. With the same labor time, Canada can produce either 20 barrels of oil or 40 tons of lumber. So in effect, 20 barrels of oil is equivalent to 40 tons of lumber: 20 oil = 40 lumber. Divide both sides of the equation by 20 to calculate the opportunity cost of one barrel of oil in Canada. 20/20 oil = 40/20 lumber. 1 oil = 2 lumber. To produce one additional barrel of oil in Canada has an opportunity cost of 2 lumber. Calculate the same way for Venezuela: 60 oil = 30 lumber. Divide both sides of the equation by 60. One oil in Venezuela has an opportunity cost of 1/2 lumber. Because 1/2 lumber<2 lumber, Venezuela has the comparative advantage in producing oil.

Step 4. Calculate the opportunity cost of one lumber by reversing the numbers, with lumber on the left side of the equation. In Canada, 40 lumber is equivalent in labor time to 20 barrels of oil: 40 lumber = 20 oil. Divide each side of the equation by 40. The opportunity cost of one lumber is 1/2 oil. In Venezuela, the equivalent labor time will produce 30 lumber or 60 oil: 30 lumber = 60 oil. Divide each side by 30. One lumber has an opportunity cost of two oil. Canada has the lower opportunity cost in producing lumber.

Step 5. In this example, absolute advantage is the same as comparative advantage. Canada has the absolute and comparative advantage in lumber; Venezuela has the absolute and comparative advantage in oil.

Step 6. Canada should specialize in what it has a relative lower opportunity cost, which is lumber, and Venezuela should specialize in oil. Canada will be exporting lumber and importing oil, and Venezuela will be exporting oil and importing lumber.

Questions & Answers

What is deadweight loss?
DAVID Reply
what is economics
Michael Reply
economics is. study about money and the human beings,the economics is social science
Leela
Economics is a science which studies humans behaviour between ends and scarce means.
Caasianebok
the total amount of money earned within a country
abdul Reply
right
Ashish
What is trade line
Ruchi Reply
what is scars
Siaw Reply
What is land as labour
Siaw
Price and output determination in a monopoly?
Ruchi Reply
Monopoly :its features, measures market power
Ruchi
Monopoly is market structure where he/she is d boss with no competition.Therefore he quote his own price for product as well for quantity he provide. Eg.Suppose desert area only one shop he/she selling 10ltr water bottle @25.But with same amt you could have bought 20ltr if it's perfect competition.
Tactful
Economics is a social sciences that have diverse application
Francis Reply
what is economics?
Osborne Reply
Economic is the study of human behaviour in relation with the scare resources and it alternate use.
Tactful
Economics is a social sciences that have diverse application...
Francis
the branch of knowledge concerned with the production, consumption, and transfer of wealth.
charlon
choice and opportunity cost?
SRIPRIYA Reply
choice is the next best alternative
Taina
Choice is option available. Opportunity cost means giving up other to get The 1st one. eg. U r hungry u got 2option available on fridge A and B. You select A over B. so this is opportunity cost. B is the Opportunity Cost over A.
Tactful
can I get simple language and examples?
Gajendra Reply
what is demand
Yavara Reply
what is fiscal policy
David
fiscal policy can be defined as the use of government's income and expenditure for a specific purpose
Nzenwata
ahhhh.. i dont what is expindetures
ian
It is the policy use by govt to influence economy ( manage inflation and deflation). Steps involved are govt spending and taxation.
Tactful
Demand is quantity of good a person is willing and ready to buy at given period of time at given price.
Tactful
good
abubakar
good but high language
Gajendra
lower the language @gajendra Singh
abubakar
What is natural monopoly
Ruchi
Natural monopoly is a market structure or system where the creation of goods and services, it's distribution and pricing mechanisms are undertaken by a sole firm resulting from demand, economies of scale and existing market survey other than legal constraints.
Gh
I don't really know anything about economics but am offering it at the University....
Oteng
Which uni if I may ask...?
Gh
can u help me guys to answer this question what are the different ways of defining money in your economy? Compare these with the monetary aggregates commonly used in another selected country. Explain their differences and the reasons for such differentiation.
aisyah
Why do we observe a wide variety of checking and savings accounts, rather than just one of each type? What are the reasons for the existence of financial intermediaries? Why do the ultimate lenders usually not lend directly to the ultimate borrowers?
aisyah
what is economic
David
The social science which study human behaviour and relationship between end and scare mean which have alternative uses.
Amadu
Trade line example
Ruchi
@ruchi y have conpleted pg in economics or doing pg in econonics
Ashish
What is demand supply
Yahuza
Demand and supply or demand supply?
BADAB
Demand refers to the quantity of a commodity that buyers are willing and able to buy at particular price over a given period of time.
BADAB
Lizzy had Rs 500, John has Rs 50, Fifi will have Rs 700, who has more money? Plz solve this question
Ruchi
@Ruchi john has more money
Ashish
How?
Ruchi
present time is important
Ashish
Yaa nd thnx
Ruchi
had is past will in future may be or not be
Ashish
@ ruchi wlcme
Ashish
aap kaha se hai
Ashish
Why
Ruchi
shukla laga hai isliye
Ashish
aap se economics padna cahate hai
Ashish
No idea for economics
Ruchi
aap to naaraj ho gayi
Ashish
mai bhi bsc hu
Ashish
koi baat nahi nabattye
Ashish
Oh
Ruchi
ma econo.ics kiya hai
Ashish
lekin mixro macro thoda kam samajh me aayi hai
Ashish
Eco not my background
Ruchi
then what your bck ground
Ashish
Sychlgy
Ruchi
oh then you study abt my pshcology
Ashish
sry u r trying to study my sychlgy
Ashish
what is national income, pls?
Priscilla
what are the production costand cost of production
Didole
explicit cost
Didole
types of cost
Didole
production cost & cost of production r de same.
Priscilla
production costs r costs incurred for producing goods & services.
Priscilla
is an economic principle referring to a consumers desire and willingness to pay a price for specific goods and services
abdul
demand and supply
abdul
Explain economic growth with the use of ppf?
Michael Reply
what z the meaning of ppf
rivan
do u mean ppc
Nzenwata
Yes pls ppc
Michael
an expansionary fiscal policy could be achieved by what
David
if the price of cigarettes ,food and alcohol rised by 10% in a year ,which is most likely to affect the cpi the most.
David
what measures would be suitable for reducing a recessionary gap.
David
increasing the level of government government expenditure is an instrument of what
David
A reductionin income tax rates would blank the blank of the multiplier
David
progressive taxes may slow down economic recovery .This is as a result of what
David
money acts as a safe guard against inflation something and something one of a function of money
David
A rise in expenditure for consumer goods something and something ,one of the cause of cost- push inflation
David
PPC IS production possibility curve. It show possible good which can be produced by an economy with given resource and technology.
Tactful
Recessionary gap can be solved by Monetary and Fiscal policy
Tactful
What are the positive effects on the economy to legalize drugs?
Richard Reply
wat factor give raise to monopoly
Ebenezer Reply
a product which is unique /it has very less substitutes in the market. so this product has no much competition .... for example , railways
mikey
its a monopoly
mikey
does monology has factors or it has merits n demerits
rivan
monopoly or oligopoly is just a type of market in which demand and supply is measured to meet public interests
mikey
economy is all about psychological behaviour of humans to each other and to environment economists role is to keep everything in equilibrium
mikey
factors give rise to monopoly. 1. Patent right 2. Cartel 3. Govt policy. 4. Control over raw material. 5. money for investment
Tactful
oligopoly and monopoly are examples of imperfect market..
Nzenwata
First, second and third degree price determination under monopoly
Ruchi
please explain what is elasticity of supply
Austine Reply
is the responsiveness of quantity supplied of commodity to changes in its own price
rivan
accounts in balance of payment
Ikogor Reply

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Source:  OpenStax, Principles of economics. OpenStax CNX. Sep 19, 2014 Download for free at http://legacy.cnx.org/content/col11613/1.11
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