A company has an absolute advantage when it can produce a product using fewer resources than other companies.
What Is Absolute Advantage?
Absolute advantage is a concept in economics that describes a situation in which one firm is able to produce and distribute the same items as another company while using fewer resources. It is a measure of how much output an organization generates. When a corporation has access to extra resources, it might potentially improve the effectiveness of its design and production processes. One of the biggest benefits of absolute advantage is that it can be used to increase the efficiency of any company’s production process. For example, if one company has a higher production level than another company, it can produce more goods at the same cost. The greater the advantage, the more efficient the production process will be.
Adam Smith’s View on Absolute Advantage
Adam Smith (1723-1790) proposed that countries should focus their production on the types of products at which they have a significant competitive edge. Mr. Smith, a Scottish philosopher who was also a pioneer in the field of political economy, is regarded as the father of modern economics.
An Inquiry into the Nature and Causes of the Wealth of Nations, written by Mr. Smith in 1776, was the first work in which the ideas of absolute advantage were outlined. He discussed it within the framework of international commerce.
When economies specialize in certain industries and engage in trade, they are able to expand outside their own markets. When an economy expands outside its borders, it opens itself up to the possibility of consuming a greater quantity of commodities.
According to Mr. Smith, it is not feasible for all economies to grow rich at the same time by adhering to the principles of mercantilism. This is because what one nation exports, another nation imports.
Instead, the open exchange of goods and services would benefit all nations simultaneously. Every nation ought to develop expertise in areas in which they hold a clear competitive advantage.
Example of Absolute Advantage
An example of absolute advantage is the position of the Canadian economy in the world market for agricultural commodities in comparison to that of the majority of other nations. This is due to the low prices as well as the comparatively high availability of land in Canada.
On the other hand, countries such as China, Thailand and Vietnam specialize in the production and export of low-cost manufactured products. Because of the significantly reduced unit labor costs they have, these three nations enjoy a significant competitive edge.
Italy’s yearly wine production is approximately four billion gallons, which is more than double that of the United States’ 700 million gallons. The United States uses more resources to manufacture a single bottle of wine than Italy does, giving Italy a significant competitive edge. The output of Italy is significantly higher than that of the United States throughout the same period of time.
Difference Between Absolute Advantage and Comparative Advantage
The concept of absolute advantage contrasts with the concept of comparative advantage. The following are two significant distinctions between them:
People or nations who possess an absolute advantage are in a better position to succeed than they would be if they possessed a comparative advantage. If a company has an absolute edge over its competitors, it will be able to develop the same asset much more swiftly. The ability of a company to produce an item at a lower opportunity cost is what is meant by the term “comparative advantage.”
For instance, a firm that specializes in technology may develop software for both mobile devices and PCs, but it is impossible for the company to work on both applications at the same time. The executives make the decision to concentrate first on mobile application development. The team has the capacity to create either four mobile programs or eight computer programs in a single year. As a result, the opportunity cost of producing either one mobile program or two computer programs is two computer programs or one mobile program, respectively. If the price is less than that of similar brands sold by competitors, then the technology business has a cost advantage.
One other distinction that can be made between absolute and comparative advantage is the reliance that each has on the other. The use of comparative advantage, in conjunction with absolute advantage, may be beneficial to a company’s operations or to international trade. Imagine that a certain business or country enjoys a number of absolute advantages over its competitors. The parties engaged may concentrate on the relative advantage amongst themselves rather than depending on a single organization to offer assets to the rest of the globe.