Absolute Advantage Vs. Comparative Advantage: What’s The Difference?

In the world of economics and international trade, absolute advantage and comparative advantage are crucial concepts to understand. Both provide businesses and countries with important information that helps them choose how they wish to divide resources for particular goods and services.

However, these concepts serve different purposes.

Luckily, to find out more about all of the important distinctions between absolute advantage and comparative advantage, this article will dive into everything you need to know.

Key Takeaways:

What Is Absolute Advantage?

Absolute advantage is the ability of one group to produce a good more efficiently than another group. After all, there will always be a company or country that is able to produce more of a specific good, even with the same resources. As such, absolute advantage is concerned with the efficiency of producing it.

Here are some reasons why a group might have an absolute advantage:

• Lower labor costs

• More available labor

• Access to more resources

• Cheaper materials

• Better investment

Ultimately, the absolute advantage can also help determine how to produce goods and services at a lower cost, as analyzing the competition can reveal the fewest number of inputs necessary to have a successful production process.

Additionally, even if a country or business finds that they do not have an absolute advantage, that information can also serve a strategic purpose. For instance, if one company discovers they’re unable to gain the absolute advantage when producing a certain good, they can then choose to forfeit production of that good in favor of something more profitable.

Ultimately, absolute advantage plays a key role in helping countries and businesses determine what they should and shouldn’t produce.

Here are a few examples of absolute advantages:

What Is Comparative Advantage?

Comparative advantage uses opportunity cost to determine which good a company or country is best at producing. When a group has the option of producing multiple goods, evaluating the opportunity cost allows them to determine which goods they’re better at producing compared to other groups that produce the same goods.

This is because the opportunity cost of one option is equal to the forfeited benefits of choosing the other option. Therefore, the option that produces more profit has a lesser opportunity cost and is thus a better choice.

The formula for opportunity cost is as follows:

Here is an example of opportunity cost in this context:

In the case that a country or business has a less severe opportunity cost when choosing to produce one good over another compared to the competition, it would then have a comparative advantage when producing that good.

With all of that in mind, here are some examples of comparative advantages:

Absolute Advantage Vs. Comparative Advantage FAQ

1. Can a country have both absolute and comparative advantage?

   Yes, it is possible for a country to have both an absolute and comparative advantage. However, this would only be possible with one good because:

   • A comparative advantage only exists when a country can produce a good at a lower opportunity cost when compared to alternatives and other countries. This exclusionary nature means it’s not possible for a country to have a comparative advantage for all of the goods they produce.

   • On the other hand, a country can have an absolute advantage in producing all goods.

   For example, if a country is able to produce more grapes than any other country, as well as produce grapes more efficiently than any of the other goods they produce, this country would have an absolute and comparative advantage in producing grapes.

   If this same country produces more olives than any other country, but their production of olives has a high opportunity cost when compared to grapes, the country would have an absolute advantage in producing olives, but not a comparative advantage.

2. What is the benefit of achieving an absolute advantage in producing one good?

   The benefit of achieving an absolute advantage in producing one good is purely economic. Having an abundance of goods others do not is essential for lucrative trade, and this is especially true when you’re the best at producing something.

   Additionally, having an absolute advantage may allow you to monopolize the production of a specific good, as other countries or companies will see that you have the most effective production and choose to produce something else.

   For example, the company Amazon has an absolute advantage in shipping and variety on the online marketplace. For this reason, many other companies don’t even want to try and compete.

   Therefore, not only is having an absolute advantage profitable, but it’s also a great way of deterring the competition.

3. What are the advantages of comparative advantage?

   The main advantage of having a comparative advantage is being able to produce goods at a lower opportunity cost. Being able to produce goods at a lower opportunity cost compared to your rivals allows you to:

   • Set prices lower without sacrificing sales margins

   • Use increased profits for trade

   • Focus production on only a few select goods

4. What are the limitations of comparative advantage?

   The main limitation in having a comparative advantage is a lack of control of the larger market. For example, the comparative advantage may be reduced by:

   • Transport costs

   • Tariffs

   • Exchange rates

   • Imperfect competition

   All of these factors and more will reduce the opportunity cost ratio, and they can be hard to predict and account for.

5. What are the limitations of absolute advantage?

   The main limitation of absolute advantage is the disruption of supply and demand. While a country may indeed be the best at producing something, issues can arise when the supply of that good outweighs the demand.

   In this case, the country will end up having an abundance of goods without anyone to sell them to, which will drive down profits.

   Take, for example, the price of oil during the height of the COVID-19 Pandemic. Because no one was traveling, the demand for oil plummeted, causing the biggest oil producers to have an imbalanced supply. Ultimately this caused the price of oil to drop, and the companies with an absolute advantage lost profits.

6. What are the four main sources of comparative advantage?

   The four main sources of comparative advantage are as follows:

   • Quantity of resources available

   • Level of competition in the market

   • Specialization

   • Economies of scale

   All of these factors are crucial in determining whether or not a company or country will be able to obtain a comparative advantage when producing certain goods.

Conclusion

Understanding the difference between absolute advantage and comparative advantage is crucial for producing goods as efficiently as possible. After all, knowing what goods to produce can be the difference between profitability and bankruptcy.

In summary, absolute advantage is the ability of one group to produce a good more efficiently than another group, whereas comparative advantage uses opportunity cost to determine which good a company or country is best at producing. Both are invaluable in determining which goods should be prioritized and produced.

Overall, deciding whether or not to focus on having an absolute or comparative advantage is highly dependent on the situation of the country or company. In either case, it is vital to research the market properly.

Author

Jack Flynn

Jack Flynn is a writer for Zippia. In his professional career he’s written over 100 research papers, articles and blog posts. Some of his most popular published works include his writing about economic terms and research into job classifications. Jack received his BS from Hampshire College.