Comparative Advantage: A country has a comparative advantage in the production of a good when this can be produced at a lower opportunity cost than its trading partner.
Theory of Comparative Advantage: As long as opportunity costs in two (or more) countries differ, it is possible for all countries to gain from specialisation and trade according to their comparative advantage. The global allocation of resources improves, resulting in greater global output and greater global consumption, allowing countries to consumer outside their PPC
Source of comparative advantage: differences in factor endownments (differences in quantities and qualities of factors of production and levels of technology)
Unrealistic assumptions:
- Factors of production are immobile and fixed, Technology is fixed
- There is perfect competition
- There is full employment of resources
- Imports and exports balance each other
- There is free trade
- Ignores transportation costs
- Specialisation according to comparative advantage may not allow necessary structural changes in and economy
- Lead to excessive specialisation and dependency
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