Free Trade and Protection

Sources of Comparative Advantage

 

What is Comparative Advantage?

Comparative advantage is where a country can produce a good or service with the lowest opportunity cost. Countries that specialise and produce goods and services that they have a comparative advantage in can experience a mutual gain in trade.

 

What are the Sources of Comparative Advantage?

Comparative advantage is determined by a country's resources, that is the land, labour, capital and enterprise.

 

Land

  • Endowment of natural resources

  • Climate 

 

Labour

  • Quality of labour force - skilled and qualified workforce to ensure labour productivity

  • Quantity of labour - size of the labour force

  • Wage costs of labour

 

Capital

  • The quality of capital - is the production of goods and services using the latest technology?

  • Quantity of capital - capital to labour ratio

 

Enterprise

  • Managerial processes to ensure the efficiency of labour and capital

  • Utilising technological change

  • Leading research and development

 

Other Factors

  • Exchange rate

  • Level of protectionism

 

Case Study: Australia's Comparative Advantage in Iron Ore

The Australian economy is one of the most competitive in the production of iron ore, which is mainly driven by the country's naturally rich resource deposits of high-quality iron ore. In addition, the structure of the labour force is ideal for the production of iron ore. Iron ore is highly capital intensive, which is advantageous on Australia's small but highly skilled labour force. While Australia's mining wages are very high, they are compensated by high levels of capital deepening, increasing labour productivity and driving down unit costs of production. ​

 

Australia's low level of protection and formation of trading partners such as those with China, Japan and Korea, make accessing iron ore export markets easier. 

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