Comparative Advantage

Imagine a world-famous soccer star who also cooks far better than most professional chefs. This star is number one at soccer and number one at cooking. Is it really a good deal to shop for groceries and cook every day?

On the surface, cooking at home looks like it saves money, but it's actually a huge loss. If the star spends 2 hours in the kitchen, that's 2 hours not spent on training or filming ads, which could earn tens of millions of won. A professional chef, on the other hand, gives up far less other income by cooking for 2 hours than the star does.

Having a smaller opportunity cost to give up than someone else is what we call "having a comparative advantage." The star commits to soccer, which creates the most value, and leaves the meals to the chef. That gives both of them the greatest satisfaction and income.

The same principle works in trade between countries. Say a wealthy, advanced country can make both cutting-edge smartphones and rice much faster and cheaper than its neighbor. Making everything itself looks like the better deal, but it actually isn't.

If it moves its farmland and workers into smartphone factories, it can earn enough to buy more rice on the world market than it could grow itself with the same resources. On the other hand, if it grows rice and runs its smartphone factories less, it takes a big loss. So the advanced country gains by putting more of its resources into smartphones, where its advantage is relatively greater.

The less advanced neighbor gains too, as a whole country. It can't make smartphones, but it gives up little else by growing rice, so it has a relative comparative advantage in rice. When both countries make what suits them best and swap, both end up with more rice and more smartphones than before they traded.

Simply being better at producing something is called "absolute advantage," while having a lower opportunity cost is called "comparative advantage." In the early 19th century, the British economist David Ricardo showed, using a numerical example of cloth and wine in England and Portugal, that the gains from trade come not from absolute differences in productivity but from relative differences in opportunity cost.

Of course, real life has a few complications. Even when a country as a whole gains, some people lose out, such as workers in industries that compete with imports. Shipping costs can be too high, and if a trading partner suddenly cuts off trade, shortages of food or energy can become a security crisis. That's why real countries divide up work by comparative advantage while also using various protective policies to keep self-sufficiency in key industries.

Still, the lesson of comparative advantage is a powerful one. Even if you aren't number one at everything, or fall short of others in many ways, if you find the work you can do well at the least sacrifice and cooperate, then everyone has a place where they can create value in the world.