Brief notes on the concept of Comparative Cost Difference

The production possibility curves for India and England (i.e., lines II and EE respectively) show that India can produce one unit of wheat with 40 hours of labour whereas England requires 90 hours of labour to produce one unit of wheat; the absolute cost advantage in the production of wheat is 90 – 40 = 50.

Again, India needs 80 hours of labour for producing one unit of cloth, whereas England needs 100 hours of labour; India’s absolute cost advantage in the production of cloth is 100 – 80 = 20.

Thus, India enjoys absolute cost advantage in both wheat and cloth, but it possesses a greater comparative advantage in the production of wheat.

Similarly, England has absolute cost disadvantage in both wheat and cloth, but it has smaller comparative disadvantage in the production of cloth. Thus, India will specialise in wheat and England in cloth.

India’s offer curve (Line I) is drawn on the basis of its domestic barter rate (or cost ratio), i.e., 1 Wheat = .5 Cloth. Similarly, England’s offer curve (line E) is drawn on the basis of its domestic barter rate (or cost ratio), i.e., 1 Wheat = .9 Cloth.

In this case international trade will take place and will be advantageous to both the countries because India wants more than .5 units of cloth for one unit of wheat exported and England is willing to give any price less than .9 units of cloth for one unit of wheat imported.

Thus, when there is comparative cost difference, a country will specialise in the production of the commodity in which it has greater comparative advantage (or lesser comparative disadvantage) and will gain by exporting it.