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Comparative Advantage - Coggle Diagram

- - - - Origin & Core Purpose: Published in David Ricardo's 1817 work to refine Adam Smith's absolute advantage concept, demonstrating that international trade benefits both nations even if one is less efficient in producing all goods.
      - The Core Rule: A nation should specialize in and export commodities where it holds a comparative advantage (lowest relative cost or least absolute disadvantage) and import those where its comparative disadvantage is greatest.
      - Labor Theory of Value: Built on the assumption that labor is the sole, homogeneous factor of production, meaning the price or cost of any good depends exclusively on the labor time required to produce it.
      - Key Assumptions: Operates on a 2-nation, 2-commodity (2x2) framework assuming constant costs (linear PPF), perfect competition, free trade, zero transportation costs, and labor that moves freely domestically but cannot cross national borders.
      - Dual Gains from Trade: Specialization generates both production gains (an increase in total world output) and consumption gains (enabling nations to consume beyond their domestic production possibilities frontier).
      - Terms of Trade Limitation: Because it focuses solely on supply-side domestic cost ratios, the model only establishes the outer boundary limits for equilibrium terms of trade, leaving the exact rate to be determined later by John Stuart Mill's theory of reciprocal demand.
  - - - The world consists of two nations, each using a single input to produce two commodities.
      - In each nation, labor is the only input
      - No transport costs. Moving goods between countries is treated as costless, which in reality erodes some of the gains.
      - Factors mobile within, immobile between, countries. Resources can switch between industries at home but do not move abroad.
      - Constant opportunity costs. The simple model assumes opportunity cost does not rise as a country specialises, which is rarely true.
      - Free trade with no barriers. No tariffs, quotas or other protection distort the pattern of specialisation.