Comparative advantage explains why people trade and what goods they should trade. To illustrate the concept of comparative advantage, we ask: Should Martha Stewart
Comparative advantage explains why people trade and what goods they should trade. To illustrate the concept of comparative advantage, we ask: Should Martha Stewart iron her own shirts? Even if Martha Stewart has an absolute advantage in ironing shirts, her opportunity cost is simply too high! We’ll go over the concepts of absolute advantage and opportunity cost in depth using more examples, too.
Ready to test your knowledge? We introduce several homework questions in this video and we’ll cover the answers in another video in this section.
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You seem to be ignoring the cost of the labor. Sure it takes more units of labor to produce the computers in Mexico, but if the cost of a unit of US labor is more than 12 times as much as a unit in Mexico then it is still cheaper for the supplier to produce the computer in Mexico.
Good question. Ultimately, wages are determined by productivity so wages are included in the model but implicitly. We go into this in more detail in our textbook. Here is the gist. Suppose computers cost $300 and shirts $100 then, using the pre-trade figures, if Mexico uses 24 units of labor to produce 1 computer and 6 shirts the total value of consumption is $900 and since workers in equilibrium all receive the same wage they each receive $37.50. You can do a similar calculation for the US - you should get $200.
You should also do these calculations using the after specialization (with trade) figures and you will find that wages in both countries increase because productivity increases.
So the model is actually quite deep as it also includes wages and the wage story is consistent with the story that focuses on output directly.Of course, the model doesn't include other factors like minimum wages or unions or lots of other things but that would obscure the point of the model.
Just looking at it from purely financial standpoint Martha Stewart is not better off doing her own ironing, however if we could calculate what implicit benefit that ironing her own shirt/clothes bring to her that be a good reason for her to continue ironing her shirt. As you defined at the beginning Comparative advantage is about one trying to maximize their well being through trading...so there in lies the solution: it depends on what Martha deems to be her well being... financial returns or that inner peace (most certainly doesn't add up to GDP) but may be the thing that keeps Martha going.
What if a country (country A) produces nothing that other nations want? Does country A still have comparative advantage?
To use the example of Mexico and the U.S. at the start of the video, the U.S. enjoys absolute advantage at producing both computer and shirt, but only comparative advantage in producing computers, therefore it makes sense for the U.S. to specialise in producing computers and trade computers for shirts with Mexico. But what if the shirts produced by Mexico are of inferior quality and the U.S. people think they are unfashionable and are unwilling to trade U.S. computers for Mexican shirts. Does Mexico still have comparative in producing shirts?
In that case the concept of comparative advantage does not apply. The concept of comparative advantage only applies to objects which are "goods" for both countries (or processes which are "services"). This means objects which are desired, or for which there is some willingness to pay, for example if there is any positive fraction of a computer that Americans would pay for a Mexican shirt. A certain type of exorcism or ghost busting might be an example of a practice which is a service in country A but not in country B.