Ricardian comparative advantage and opportunity cost:

It is important  to highlight that the obviousness of gains from  trade within the framework of absolute advantage of Adam  Smith was never questioned by David Ricardo.  However,  the  contribution  of  Ricardo was  to show how two countries can derive gains from trade even if one country has absolute advantage as  compared  to another country in the production of all goods. The question then arises whether in a situation in which country X producing all goods with less labour cost than  country Y would lead to gains from  trade accruing to both the countries  X  and Y?

To understand  this, we may refer to the model, which was used by Ricardo to propound the theory of comparative advantage. Illustratively, England and portugal  were chosen as examples  bv Ricardo. Both the countries produced two goods viz. wine and cloth. Portugal was assumed to be using lesser units of  labour  in producing not only cloth but also wine. The first two  columns of Table show what  the cost conditions  in  the two countries  were.  It  is clear that,  Portugal  has absolute advantage in the production of  both wine  and cloth because the number of hours of  labour required for  the production for each unit of the two goods is lesser in Portugal than in England.

The obvious question arises whether the  two countries would gain from trade? In  fact, both England and Portugal would gain from trade if the concepts of opportunity  costs manifested in comparative  advantages are understood at this (stage. The opportunity cost of a good A  is defined as the amount of another good, i.e. B, that has to be given up in order to produce an additional unit of A. As demonstrated  in Table the opportunity costs of producing wine and cloth in England and Portugal are lower than each other in such a way that England should produce and export cloth to Portugal and the latter should produce and export wine to the former.

Let us explain it further. Portugal has the lower opportunity cost of the two countries in  producing wine  (0.89  as compared  to England's while England has the lower opportunity cost in producing cloth (0.83 as compared to Portugal).  Therefore, Portugal has  a comparative advantage in  the production of  wine  and  England  has  a  comparative advantage in the production of cloth and both the countries should export to the other country the good in which it has a comparative advantage. This brings us  to  the definition of comparative advantage. A country has a comparative  advantage  in  producing  a  good  if  the opportunity cost of producing  that good is lower at home than in the other country. It needs to be highlighted that the difference in oportunity  costs between two countries in  the production of the same good or the presence of comparative advantage  in  one country vis-a-vis another arises due  to  technological differences.