Textbook Guide Economics: Absolute Advantage, Comparative Advantage, Opportunity Cost

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1 Dec 2016
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Interdependence and the Gains from Trade
A Parable for the Modern Economy
o Trade expands the set of consumption opportunities and allows
individuals’ specializations to provide efficiency for the production of
goods and services.
Comparative Advantage: The Driving Force of Specialization
o A producer’s capacity to produce more of a good using fewer inputs
than another producer is called an absolute advantage.
o The opportunity cost of a decision is whatever must be lost in order
to complete a decision.
o A producer’s capacity to produce a good at a lower opportunity cost
than another producer is called a comparative advantage.
Producers usually have comparative advantages to produce
specific goods and services better than others in order to exist
in a market.
o When producers specialize on a good in which they have a
comparative advantage, total production in an economy rises; the
gains from specialization and trade (in which everyone is in benefit
as they now have access to more goods and services) is based on
comparative advantage.
o For both parties to efficiently and rationally gain from trade, the price
at which they trade must lie between their own individual opportunity
costs.
Applications of Comparative Advantage
o The comparative advantage of individuals as well as the opportunity
costs of other decisions results in them making efficient and rational
decisions.
o Goods and services that are produced outside of an economy but
sold domestically are called imports.
o Goods and services that are produced inside an economy but sold
abroad are called exports.
o International trade provides global prosperity as, through each
polity’s comparative advantage, goods and services are more readily
available through a country’s overall economy.
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