Sample Economics Paper on Theories of Absolute Advantage and Comparative Advantage

Absolute Advantage:

Adam Smith, who was known as the father of Economics, developed the theory of absolute advantage. In his famous book The Wealth of Nations published in 1776 he elaborated that there is Absolute Advantage for a country ora firm that produces goods more efficiently than any other country with the same level of inputs. An economy is said to be in absolute advantage when it needs fewer resources to produce equal or more amount of goods and the costs will be lower than that in other economies (Gnidchenko, 2016). Thus, Absolute advantage is related to lower cost production. It can be the result of a country’s natural gift. It is anything one can do more efficiently than the others.

There are a few assumptions to Absolute advantage. It is assumed that lack of mobility is one of the factors of production as human resources cannot be moved between countries. Also there are no trade barriers for exchange of goods across borders. Also, the exports should be equal to the imports an there should be no trade imbalance. The last assumption is that the inputs give constant returns to scale (Absolute advantage, 2008).

Comparative Advantage:

An economy is said to be in comparative advantage when its ability to produce goods and

services at a lower marginal and opportunity cost than that of others. This gives a country

the ability to sell goods at a lesser price than the competitors and take in stronger sales

margins (Bakhshinejad & Hassanzadeh, 2012).

Comparative advantage measures the efficiency of an economy in terms of relative

magnitudes. A country with comparative advantage implies an opportunity cost linked with

the production of a good compared to another. This is the reason that some countries tend

to focus on production of  certain commodities.

In other words, comparative advantage is what one can achieve the best while giving up the

least. This is when an economy provides a better value to the consumers than its

competitors. To gain a competitive advantage companies can use three strategies. They

could try to be a low-cost provider, they could put forward a better quality product or

service or they could focus on a single type of customer. It is the factor that makes an

economy more attractive to consumers over the others. ("Understanding Comparative Advantage", 2019)

Absolute Advantage v/s Comparative Advantage

  • In absolute advantage a country produces a large number of goods with the same

Resources as the another country is provided with, whereas  in comparative

Advantage a country can produce a particular good with better quality at a lower

price than the other country (Dong & Wong, 2016).


  • In absolute advantage there is no mutual benefit in trade but in comparative

advantage there is a mutual benefit as the country with lower opportunity cost of

producing a good can export it to the other country.


  • The cost of production is considered to determine if the country has an absolute

advantage. Opportunity cost is the aspect that determines if the country has a

comparative advantage over the others.


Short Run and Long Run- Time for Transition


Short Run

The short run is the conceptual “timeperiod”during which at least one factor of

production is fixed while other factors are variable. It is usually less than six months. For

Instance, if capital is fixed, than the companies will not be able to increase capital in the

Short run to increase output. They may employ more workforces for the purpose.

Thus, fixed costs are not relevant in a company’s short run decisions, as they have no

impact. The profits of companies are subject to changes in variable costs and revenues.

A company have the capacity to increase production increasing the quantum of the

variable factors like work force through overtime (“The Short Run and the Long Run in Economics”, 2019).

Companies can maximise profit by increasing output if the marginal cost is less than

the marginal revenue and by decreasing it if marginal cost is greater than marginal


In the short run company the equilibrium of wages and prices willbe disturbed as a

sudden increase in demand could push prices but the companies may not have the

capacity to augment the supply to cater to the increased demand.

Long Run

In long run scenario, all main factors of production are variable and a company can

expand its production facility over a “time period” exceeding six months or any year.


Companies have to augment their production capacity to meet the increased demand in

the long run. A temporary surge in prices will be taken care of by increasing supplies in

the long run. (“Long-Run Growth | Boundless Economics”, 2019)


In the long run demand can vary over a period as people may become sensitive to

prices, whereas in the short run they continue to buy an item they are used to.

Very Long Run

In very long runall factors of production are variable, and additional external factors like

technology and government policy, which are beyond the control of companies, can

come into play.

Transition from Short Run to Long Run Profit

In transition from the short run to the long runa company has to take into consideration

the current and future supply and demand equilibrium. It has also to take into account

additional factors like sales tax that can disturb the equilibrium.

The transition also involvesin-depth proper of current market scenario along with

revenue and based on it the market projections in the long run.

Short Run Shutdown vs. Long Run Exit

In case the average variable cost is higher than price at each level of output the only

option for the company is to stop production. A company still has to pay fixed costs and

cannot leave the industry. A short run shutdown is temporary and if market scenario

improves, the firm can restart production.

However, a firm cannot continue to accumulate losses indefinitely. It has to take a

decision to exit, which is a long-term decision. Exiting the industry will not bring any

revenue to the company but it will not have to make any expenditure towards fixed or

variable costs.


Short Run Supply Curve

The graph shows that short run supply curve is the marginal cost (MC) curve at and above

the shutdown pointin a perfectly competitive market. It is useful to represent a firm’s short run economic state (Ma, 2015).


Technological change and Decline in Traditional Industries

Technological change can impact  traditional industries in developed world. New technologies have always made life easier and the impact has been overwhelmingly positive across the world. With technology there is a now access to all kinds of information, there are new and easy ways to communicate with others across the globe, and there are new opportunities to expand any business globally. In the recent decades there has been a dramatic acceleration in the pace of development and adoption of technologies. Though there may be various gaps in terms of adoption in different areas of the world, especially in the developing countries. This technological change is influencing almost every area of the society ,economy, culture and environment.Companies are adopting new technologies for bulk production of standardised goods and services in ever-increasing units. The focus is on achieving higher targets of production which requirehigher quantum of resources in the form of  raw materials, energy, financial capital and other inputs. Not much attention has been paidto the implications of the large-scale exploitation of precious resources on the environment all these years. However, the impact is now being  felt and  there is greater awareness and urgency to contain the fall out and  preserve the quality of local and global environmentsby adoption of energy-efficient clean processes.

The period of technological transition has major implications for human capital as new processes disrupt labour market and  past equilibria due to mismatch. The impact is felt immediately as  demand for new jobs and skills increases and those proficient in old activities  lose out in  marketplace and disappear.  More so, when the technological change is rapid as is happening currently. It will not only have transformative but also  unsettlingeffects on sustainable development. (“Globalization of Technology”, 2019)


While we welcome new technology and innovation, it is slowly becoming a threat for the traditional industries. The transformation in the processes  brought about by technological changes spur structural changes in both the economy and the society. The maximum impact of this restructuring is on the labour market. The requirement of skills for human resources is changing for almost almost every sector. Forexample human travel agents have been replaced by travel websites such as MakeMyTrip, Expedia and Travelocity. Online news portals and blogs are affecting print media and people do not buy newspapers anymore. The handicraft and handloom industry is the most affected as there is easy, cheap and mass production of goods through machinery  and humans are no longer required to do that. Similarly, online libraries are fast replacing traditional libraries and the librarians and attendants  who used to help the readers in finding books are no longer required.

The latest threat to jobs is emerging from increasing use of artificial intelligence (AI). It can

potentially replace most of the processes and functions  being  performed by humans. In the

highly competitive business environment companies are using AI to achieve maximum

possible level of automation to cut down the employees cost.

It is now accepted that technological advancementwill lead to significant job loss and very

few new jobs  will be created in comparison. Further, it is doubtful if the new jobs will be

taken up  by those  who lose their jobs. The main hurdle is that those who lose jobs may not

have the requisite technological skills to fulfil the requirements of the new jobs

Only those individuals who can interface the be those individuals who have the competence

tocan interface with the new  technology will  be able to take up the new jobs. In the present digital era computer skills, particularly programming, has become a basic requirement for any job. It is obvious that those who having good computer programming skills will be in a position to reap the rewards of technological  changes in comparison to those who can only carry out physical labour.

Thus, the next wave of digital technology may cause more destruction than creation.

The combination of mechanisation with artificial intelligence and data science may prove lethal and have a huge negative impact on employment, productivity, globalization, and competition.  With paperless offices and increasing automation use of robots in carrying out processes and functions being performed by humans not only blue-collar jobs that will be eliminated. There is already the talk of human-free factory and the way new technology is transforming every aspect of life, it may become a realty sooner than later. (“20.2 Labor Productivity and Economic Growth – Principles of Economics”, 2019)


What drives long term Economic Growth? 

Economic growth is essential for improving the quality of life. Economic growth of any country or region is the increase in the market value of the goods and services over a period. It is measured as the rate of increase in the real gross domestic product (GDP).

Goods and services require labour, finances and natural resources for production. The sustained growth of  economy mainly depends on optimum utilisation of   human resources, financial capital and natural assets.

Natural Capital

Natural resources are the most important capital as it is the primary resource for economic development but also sustains all kind of life on earth. The nature provides both renewable and non-renewable resources.Solar energy, wind energy, hydropower, geothermal energy, and biomass energy are the main renewable resources, whileminerals, fossil fuels like coal, oil and gas and other materials are non-renewable resources. On-renewable resources are not replenished and they keep depleting at the rate they are exploited for economic growth.

Nature also provides environmental resources like forests,which serve as sinks to neutralise the impact of toxic emissions and other wastes generated by development activities and play an important role in climate regulation.

Human Capital 

Human resources are no less important for economic growth. The entire process of economic growth is the result of the human endeavour to improve the quality of life.  The economic growth depends on the quality, skills, knowledge and productivity of human resources. The quality of human resources have been main factor behind the disparity in economic growth of various country.

Enhancing human capital through education and training is central to a flourishing economy.

Financial Capital 

In the modern economy, financial capital also plays a vital role, though it has no real value itself as such. It is an enabling resource and facilitates economic activity, as it is representative of manufactured capital, andshares, bonds or banknotes.

Sustainability of Economic Growth

Sustainability of economic growth requiressteady rise in quantity of goods and services that an economy produces.It also depends on how prudently three basic resources, the natural capital, the human capital and the financial capital, are employed and managed. Natural resources can be gainfully exploitedonly up to a limit. They will eventuallyget exhausted impacting growth.

The GDP of a country also depends on factors likegrowth of the population, rise in prices and supply and demand. Economy flourishesif money supply keeps pace with growth. Demand for goods and services would increase with growth of population and as a result jobs will be created. In case the growth is not balanced, it may result in inflation and prices of goods and services will increase. Purchasing power will decline if wages did not increase. Similarly decrease in demand for goods and services will lead to loss of revenue and jobs and population rate of growth will cause decline in productivity and lower GDP growth.Even small increase in the rate of growth, if sustained for a long period, leads to significant increase in the size of economy and goes a long way raising the standard of living.

Labour productivity is key to economic growth and it depends on the human capital. The quality of human capital is determined by competencies, skills, knowledge, creativity, experience, and personal attributesto engage activity to produce economic value. Studies have established the investment in human capital increases economic development, productivity growth, and innovation.

Technological advances are a major factor that increase labour productivity as it enables to produce goods and services on large-scale deploying much less human capital.


Environmental Fallout of Economic Growth

Economic growth has the potential to make all people richer, but may have downsides such as increased inequality and environmental impacts.

Indiscriminate  has emerged as a major issue due to indiscriminate and excessive exploitation of natural resources and failure to contain the adverse environmental fall out of the development activity. The thumb rule is that extraction and utilisation of natural resources from the earth should not exceed the capacity of the environmentto absorb, recycle or neutralise their harmful effects. Economic growth can be sustained only if it takes place without hurting the environment.

Any damage to environment will ultimately affect economic growth, as it will destroy the integrity of ecosystems, whichsustain all kinds of life, cause loss of biodiversity, and affect productivity.




Absolute advantage. (2008).

Bakhshinejad, M., & Hassanzadeh, A. (2012). Comparative advantage of selected agriculture products in Iran: a revealed comparative advantage assessment. Agricultura Tropica Et Subtropica, 45(1). doi: 10.2478/v10295-012-0004-9

Dong, B., & Wong, S. (2016). A Theory of Comparative Advantage with Specialized Subnational Regions. Review Of International Economics, 25(3), 567-577. doi: 10.1111/roie.12274

Gnidchenko, A. (2016). Intra-industry and inter-industry trade through the lens of comparative and absolute advantage. Voprosy Ekonomiki, (10), 112-128. doi: 10.32609/0042-8736-2016-10-112-128

Ma, T. (2015). Long-Run Industry Supply Curve and Producer Surplus. Journal Of Economics And Development Studies, 3(2). doi: 10.15640/jeds.v3n2a4

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