In the realm of international trade, the theories of comparative advantage and absolute advantage serve as foundational principles that guide economic interactions between nations. These concepts not only explain why trade is beneficial but also explains the pitfalls of protectionist policies, such as tariffs, which can distort the natural flow of goods and services. From an economics perspective, understanding these theories and the impact of tariffs illuminates the delicate balance between global cooperation and national interests.

The concept of absolute advantage, introduced by Adam Smith in The Wealth of Nations, refers to a country's ability to produce a good more efficiently than another country. For instance, if Country A can produce 10 units of a good using the same resources that Country B would need to produce 5 units, Country A has an absolute advantage. Absolute advantage is straightforward but intuitive. It suggests that nations should specialize in producing goods where they are most efficient and trade for goods where other countries excel. However, while absolute advantage explains the efficiency of production, it does not provide a complete picture of why trade occurs. This is where the concept of comparative advantage takes centre stage.

David Ricardo expanded on Smith’s ideas by introducing the theory of comparative advantage. This principle asserts that even if one country has an absolute advantage in producing all goods, it can still benefit from trade by specializing in goods where it has the lowest opportunity cost. Opportunity cost measures what a country sacrifices in producing one good over another. For example, imagine Country A is highly efficient and can produce both wine and cloth better than Country B. However, if Country A’s opportunity cost of producing wine is higher than that of producing cloth, it makes sense for Country A to specialize in cloth and trade with Country B for wine. This way, both countries can gain from trade, maximizing global economic welfare. Comparative advantage explains much of the global trade we see today, where countries specialize in goods and services based on their relative efficiencies, not just their absolute capabilities.

Tariffs, or taxes on imported goods, can disrupt the benefits derived from comparative and absolute advantages. Governments often impose tariffs to protect domestic industries from foreign competition. While this may serve short-term political or economic goals, it has long-term consequences that can harm both the imposing country and the global economy. Tariffs distort the natural allocation of resources by discouraging imports. When a country protects its domestic industries through tariffs, it may force consumers to buy higher-cost or lower-quality domestic goods instead of more competitive imports. This reduces overall economic efficiency and raises costs for consumers.

Moreover, tariffs often provoke retaliation from trading partners, leading to trade wars. For instance, if Country A imposes tariffs on steel from Country B, Country B may retaliate by imposing tariffs on agricultural goods from Country A. This tit-for-tat escalation reduces trade volumes and economic welfare for all parties involved. By shielding domestic industries from foreign competition, tariffs prevent countries from fully capitalizing on their comparative advantages. This leads to misallocation of resources as countries produce goods they are less efficient at making, rather than specializing in their strengths. In today’s interconnected world, global supply chains are critical to the production of goods. Tariffs increase costs along every stage of the supply chain, leading to higher prices for end consumers and reduced competitiveness for businesses relying on imported inputs.

Economists overwhelmingly agree that free trade, driven by comparative and absolute advantages, results in greater economic growth, innovation, and consumer welfare. While some industries or workers may initially face challenges from global competition, the overall benefits of trade—lower prices, greater variety, and higher productivity—far outweigh the costs. To address the downsides of free trade, governments can implement policies like worker retraining programs, education initiatives, and social safety nets, rather than resorting to trade barriers. These measures ensure that the gains from trade are more equitably distributed without sacrificing the efficiency and growth that trade fosters.

The principles of comparative and absolute advantage highlight the advantages of global trade, emphasizing specialization and efficiency. However, tariffs undermine these benefits, creating inefficiencies and distorting markets. While protectionist policies may appeal to political interests in the short term, they ultimately harm consumers, businesses, and the global economy. In an increasingly interconnected world, embracing free trade and fostering international cooperation is essential for sustained economic growth. By applying the principles of comparative and absolute advantage, nations can achieve mutual prosperity while resisting the temptation of protectionist policies that hinder progress.

Recently, the United States has implemented a significant tariff policy under the administration of President Donald Trump, which includes a tariff on nearly all imports, with higher rates for specific countries based on their trade practices. This policy sounds addressing trade imbalances and protecting American industries but raises concerns about potential retaliatory measures and the overall impact on global trade dynamics.

By Dr. Bankee Kwan

Member of the National Committee of the Chinese People’s Political Consultative Conference (CPPCC) and the Permanent Honorary President and Past President of Federation of Hong Kong-Shanghai Associations

Dr. Philip Wong

Member of Royal Institution of Chartered Surveyors (MRICS)

Fellow of the Chartered Institution of Highways and Transportation (FCIHT)

The views do not necessarily reflect those of Orange News.

Photo: AFP