Theory of Comparative Cost Advantage:

Adam Smith's theory of absolute advantage fails to explain the basis of trade in situation where a country has absolute advantage in the production of both goods.

David Ricardo in his "Principle of Political Economy and Taxation" published in 1817 proved that even if a nation has absolute advantage in the production of both commodities it is still possible for trade to exist between them for which countries could benefit. He pointed out that what was relevant therefore was comparative advantage and not absolute advantage. According to Ricardo, absolute advantage is not a sufficient condition for mutually beneficial trade. According to him the sufficient condition for mutually beneficial trade is a pattern of comparative advantage across nations.

According to the theory of comparative advantage whether or not one of the two countries is in absolute terms more efficient in the production of every commodity than the other, if each specializes in the product in which it has a greater comparative advantage trade will be mutually beneficial.