Absolute and Comparative Advantage

A common mistake in trade analysis is to ask only who can produce more of everything. Productivity determines absolute advantage; opportunity cost determines comparative advantage. Specialization is guided mainly by the latter.

Compare output per unit of time

Suppose Lin and Zhou can produce the following in one hour:

Lin produces more of both goods in the same time and therefore has an absolute advantage in both. That fact alone does not determine the best division of work.

Convert productivity into opportunity cost

Lin can make 12 coffees or 4 sandwiches per hour, so one sandwich costs 3 coffees. Zhou can make 8 coffees or 2 sandwiches, so one sandwich costs 4 coffees. Lin has the comparative advantage in sandwiches.

In the other direction, one coffee costs Lin $\tfrac{1}{3}$ of a sandwich but costs Zhou only $\tfrac{1}{4}$. Zhou has the comparative advantage in coffee.

One person can have an absolute advantage in both goods. In the two-person, two-good model with different opportunity costs, however, the same person cannot have comparative advantage in both. The opportunity costs are reciprocals, which provides a useful arithmetic check.

Comparative advantage describes relative cost, not overall superiority. People, firms, and countries can gain by concentrating on activities with lower relative opportunity cost and then exchanging.