Comparative advantage

In economics, the theory of comparative advantage explains why it can be beneficial for two countries to trade, even though one of them may be able to produce every kind of item more cheaply than the other.

Example 1

Two men land alone in an isolated island. To survive they must undertake a few basic economic activities like water carrying, fishing, cooking and shelter construction and maintenance. The first man is young, strong, and educated and is faster, better, more productive at everything. He has an absolute advantage in all activities. The second man is old, weak, and uneducated. He has an absolute disadvantage in all economic activities. In some activities the difference between the two is great; in others it is small.

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Is it in the interest of either of them to work in isolation? Specialisation and exchange (trade) can benefit both of them.

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How should they divide the work? According to comparative, NOT absolute advantage: the young man must spend more time on the tasks in which he is much better and the old man must concentrate on the tasks in which he is only a little worse. Such an arrangement will increase total production and/or reduce total labour. It will make both of them richer.

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Specialisation and exchange will not be possible if there is an absolute resource constraint. If, for example, the amount of fresh water available on the island is enough for one man only. Then there will be war.

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