Absolute Advantage
Absolute advantage theory was invented by an economist Adam Smith in his “The Wealth of Nations in 1776. This theory describes how one country produces goods or services more efficiently than another country. It directs any country to produce the good in which that country is efficient and economically best. It helps to determine the appropriate products of goods to be manufactured and to be imported. It can contribute significantly to the national income.
Definition:
Absolute advantage is the ability of an industry, nation, region, or economy to produce a specific good more efficiently and economically than that of another country.
It directs any economy to produce goods at a lower cost and more efficiently than the same goods in another country. It enables any country to decide whether to produce the goods independently or to import them from another country.
Key Features of Absolute Advantage
Efficiency in Production:
Absolute advantage theory is based on the cost and capability of any country to produce a specific type of goods more economically than any other country. The country has an absolute advantage in producing specific goods over another country indicates that the goods produced in a country with less cost than that of another country.
Specialization
A country with an absolute advantage can produce the goods which can be produced more efficiently and economically which leads to making the country specialized in producing that good. The overall efficiency of the country in producing the goods with less input can be increased by absolute advantage.
Implication
When a country produces goods with absolute advantage it enhances the overall efficiency of global production. This can enable each country to take advantage of efficient production. Absolute advantage can reduce the cost of goods across the world as it is produced at less cost. The economic crisis or food crisis may be caused by high inflation. High inflation can be caused by producing goods that are not efficiently produced and imposing a burden on the economy. Instead, if absolute advantage theory is utilized by all the countries then economic and food crises will no longer be a problem of any country.
Detailed Example of Absolute Advantage
Fig. 1.1 Example of Absolute advantage in Rice and IC production
Two countries produce two different types of products. Both countries spend limited resources on the production of these two product. However, there is a difference in utilization or requirement of input resources to produce these products. Following is an example that describes how one country has an absolute advantage over another in producing a specific product.
India produces 100 kg of rice at 10 units of cost and can manufacture 10 units of IC (INTEGRATED CIRCUIT) at the same cost.
Whereas Japan produces 10 kg of rice at 10 units of cost and 100 units of IC (INTEGRATED CIRCUIT) at the same cost
Absolute advantage in rice production
India can produce the rice more efficiently and economically than that of Japan.
In the above example, India has an absolute advantage in producing rice. In this case for India, it is better to produce rice and export it to Japan whereas for Japan it is better to import it from India. This is the simplest example of the trade decided by a country based on the Absolute advantage theory.
Absolute Advantage in IC (INTEGRATED CIRCUIT) Production
Japan can produce IC (INTEGRATED CIRCUIT) more efficiently and economically than that India. Hence Japan has an absolute advantage in manufacturing IC (INTEGRATED CIRCUIT). So Japan should export IC (INTEGRATED CIRCUIT) and import rice from India.
The above example indicates the advantage of specialization of a country using absolute advantage theory.
Absolute advantage in producing Rice Production
India produces rice more efficiently than Japan with an output of rice 100 units per hour and 50 units per hour ICs. Therefore India has an advantage in rice production.
Absolute advantage in producing ICs Production
Japan produces ICs more efficiently and economically than India at an output of 1000 units of ICs per hour and 5 units of rice. Hence Japan has an absolute advantage in IC production.
IC(Integrated Circuit) Production
Specialization and Trade
based on the absolute advantages if the countries produce the products in which they can produce efficiently and economically then these countries are specialized in producing that product. In the above case, India is more efficient in producing rice than Japan hence India produces rice only instead of producing ICs. India will be specialized in producing rice vs. Japan.
On the other hand, Japan is more efficient in producing ICs hence based on absolute advantage Japan produces ICs instead of rice, making them a specialized country.
In this way both the countries are specialized in producing the products rice and ICs. So both the countries can consume this product more and hence trade more. Thus absolute advantage theory guides not only two countries but the whole world to produce specialized goods and trade across the world.
Benefits of Specialization and Trade
Without Specialization
Let us assume that India spends 10 labor hours equally to produce rice and ICs. According to the above information, the rice will be produced in 1000 units and 500 ICs
On the other hand when Japan spends 10 labor hours equally to produce ICs and Rice. According to its efficiency, the rice will be produced in 50 units and 10000 units of ICs.
Total Production without Specialization and Trade
Rice= 1000+500= 1500 units
ICs= 50+10000=10050 units
With Specialization
If India splits all the hours that is 20 hours to produce Rice then it produces 2000 units. Whereas Japan produces 20000 units of ICs.
Total production with specialization and Trade
Rice = 2000 Units
ICs= 20000 Units
After comparing the total output produced by both countries it has been found that the total production of Rice and ICs is more when these countries produce with specialization. Without specialization, these countries can not produce the output as much as by specialization.
Global production of rice according to the absolute advantage theory and specialization can be produced more efficiently. Hence absolute advantage theory enhances the production efficiency of all the goods across the globe. This gives an advantage to all the countries to make trade of the goods that can not produced more efficiently.