ABSTRACT
This chapter explains the relationship between absolute and comparative advantages and international trade. In contrast to absolute advantages, international trade based on comparative advantages depends only on the difference in comparative costs. This means that nations can still trade with each other even if one country has cost superiority on every commodity. The benefits of international trade based on comparative advantages can again be illustrated by choosing a ratio located in “feasible zone” of profitable terms of trade. To estimate the international terms of trade, under the assumption of a zero trade balance, it is necessary to take the following steps. The first is to standardize the domestic prices of both cars and pottery in terms of a single currency, the second is to assume a zero trade balance and equate export revenues with the import bill, and the third and final step is to determine the terms of trade. Multinationals recognize two forms of comparative advantages: structural and responsive.
