Specialisation and trade

Question 1

What does it mean if a country has a comparative advantage?

Answer 1

When a country is able to produce a good more cheaply relative to other goods produced. It has a lower opportunity cost.

Question 2

What is the theory of comparative advantage?

Answer 2

Countries find specialisation mutually advantageous if the opportunity costs are different.
- opportunity cost is the sacrifice of alternative products made when you specialise in another.

Question 3

What is absolute advantage?

Answer 3

When a country is able to produce a good more cheaply in absolute terms compared to another country.
- the country is able to produce a greater quantity of a good using same factors of production

Question 4

Assumptions and limitations of theories of comparative and absolute advantage.

Answer 4

• comparative advantage assumes there are no transport costs (could lower or prevent comparative advantage)
• Assumes that costs are constants and there are no economies of scale to help increase gains of specialisation
• Assumes goods are homogenous (this is unlikely)
• difficult to conclude a country has comparative advantage if goods cannot be perfectly compared.
• Ignores possible externalities of producing/consuming the good.