The Absolute Advantage concept is generally attributed to Adam Smith for his 1776 publication An Inquiry into the Nature and Causes of the Wealth of Nations in which he countered mercantilist ideas. Adam Smith argued that it was impossible for all nations to become rich at the same time by following mercantilism because the export of one nation is another nation’s import and instead stated that all nations would gain simultaneously if they practiced free trade and specialized in accordance with their absolute advantage.
Later in (1817) David Ricardo was concerned with the static resource allocation problem when he defined the concept of Comparative Advantage, which is determined not by absolute values of labour productivity but by labour productivity ratios. He treated labour as the only source of value, as all other factors of production i.e. capital are produced by labour. Thus the Price of a good (P) is simply equal to the Wage rate (w) multiply by the Labour (L) used in production, divided by Output (Q), as profit is zero in competitive markets: P = (w L)/Q. 1.2.
Absolute Advantage vs Comparative Advantage
Smith’s theory says a country is said to have an absolute advantage over another country in the production of a good or service if it can produce that good or service using fewer real resources. Equivalently, using the same inputs, the country can produce more output. The concept as described by Smith was in the context of international trade, using labour as the only input. Smith said the real worth of a country consist of the goods and services available to its citizens. International Business, 163.
He also argued that through specialisation, countries could increase efficiency because: •
Workers will be better at their jobs because of performing the same task repeatedly; •
Workers will improve productivity as no time will be wasted in changing production lines; and •
Long production lines will encourage effective and incentivise efficient...
Please join StudyMode to read the full document