A comparison between Adam Smith's absolute and D. Ricardo's comparative advantage theory in international trade. "No matter what, you should always specialize"

1. International Trade
Absolute & Comparative Advantage

2. Absolute Advantage
A party’s ability to produce more goods than a
competitor using the same amount of input(s)
(assume single input : labor)

3. Example 1
Party
Good/Hour
A
4
B
7

4. Example 1
Party B has an absolute advantage over A
Party
Good/Hour
A
4
B
7

5. Example 2
Party
Good2/Hour
Good1/Hour
A
6
4
B
2
7

6. Example 2
A has AA in Good1 and B has AA in Good2
Party
Good1/Hour
Good2/Hour
A
6
4
B
2
7

7. Absolute Advantage Theory
By Adam Smith
1. Specializing in production of one commodity
2. Exchanging parts of output with other nation

8. Two countries A, B
Party
Good1/Hour
Good2/Hour
A
6
4
B
2
7

9. Two countries A, B
Party
Good1/Hour
Good2/Hour
A
6
0 (+1 L. hour)
B
0 (+1 L. hour)
7

10. Two countries A, B
Party
Good1/Hour
Good2/Hour
A
6+6
0
B
0
7+7

11. Comparative Advantage
Spea e
No e :
A pe son has a ompa a
e ad an a e a
owe
os han an one e se.
p odu
n
some h n
he
Ha n a ompa a
e ad an a e s no
he same as be n
he bes
a , someone an be omp e e
uns
ed a do n some h n ,
ompa a
e ad an a e a do n
! How an ha happen?
an p odu e
a
e
a
some h n . In
s
ha e a
F s , e 's e some mo e o abu a . Someone who s he bes a do n some h n
s
sa d o ha e an abso u e ad an a e. M hae
o dan has an abso u e ad an a e a
bas e ba . Fo a
I now, M hae
o dan ma a so be he as es
p s
n he
wo d,
n h m an abso u e ad an a e a
p n , oo. S n e he's be e a
p n
han ou, an' he
pe mo e heap
han ou? Tha
s,
someone has an abso u e
ad an a e n some h n , doesn' he au oma a
ha e a ompa a e ad an a e n ?
The
p
I ,
se
se
answe
s no! I
o dan a es
me ou
om shoo n hoops o do a
h s own
n , he sa
es he a e n ome he ea ns
om en e a n n
ans o bas e ba .
ns ead, h s se e a
does he
p n , he se e a
es up an a e na e
e a a
ob—o pe haps a mu h owe sa a
p a n bas e ba . Tha
s, he
e a
s he owe - os
p s .

12. Comparative Advantage
1. A country should specialise in the production
of good or service in which it has lower
opportunity cost
2. It should import commodities which have a
higher opportunity cost of production

13. Commodity
Painting
400
Handicraft
Example
Profit
350
Party
Time/ painting
Time/ handicraft
You
1
1
Your Neighbour
1.5
3

14. Case 1 : Not specializing
Sharing a 6 day work week among two.
Party
Paintings
Produced
Handicrafts
Produced
Total Profit
You
3
3
2250
Your
Neighbour
2
1
1100
Total Units produced in all
9

15. Case 2 : Specializing
And producing the product with comparative advantage
Party
Paintings
Produced
Handicrafts
Produced
Total Profit
You
6
0
2400
Your
Neighbour
0
4
1400
Total Units produced in all
10

16. Specializing is always good
And you can(should) specialize even if you are
good at everything

17. Thank you
Shivek Khurana
Cluster Innovation Centre
University Of Delhi