AQA A-level Economics: Comparative advantage and benefits and costs of trade (7136) – Revision Notes

Condensed for the final weeks. For full explanations, use the study guide. Test yourself with the practice questions. These notes cover the first part of section 4.2.6.2 Trade (3.2.6.2 on the AQA website) in AQA A-level Economics (7136), specification version 1.3. Protectionism, trading blocs and the World Trade Organisation are covered elsewhere. All figures are invented and illustrative. See also the AQA A-level Economics hub, the checklist and the free diagnostics.

Key definitions

Term	Meaning
Absolute advantage	Needs fewer inputs for a good, or gets more output from the same inputs
Comparative advantage	Gives up less of the other good to make it than a rival country does
Opportunity cost	The quantity of the other good given up to make one more unit
Specialisation	Concentrating resources on the goods with the lowest opportunity cost
Pattern of trade	What a country trades, and with which countries

Method: finding comparative advantage

1. Write the opportunity cost of each good in each country. If you have hours per unit, divide one good’s hours by the other’s. If you have maximum output, divide one maximum by the other.
2. The country with the lower opportunity cost of a good has the comparative advantage in it.
3. Check: the two countries’ ratios must be different, or there is no gain.
4. Find the range for the price: it lies between the two opportunity costs.
5. Add up world output before and after specialisation.

Worked reminder: output figures

Country E can make 12 textiles or 4 machines per worker per week. Country F can make 6 textiles or 3 machines. E has 100 workers and F has 200.

• Opportunity cost of 1 machine: E gives up 12 ÷ 4 = 3 textiles. F gives up 6 ÷ 3 = 2 textiles.
• F has the comparative advantage in machines, E in textiles. E has the absolute advantage in both.
• Before trade, half of each country’s workers make each good.

Before trade	Textiles	Machines
Country E (50 + 50 workers)	600	200
Country F (100 + 100 workers)	600	300
World	1,200	500

• After specialising, E makes 100 × 12 = 1,200 textiles and F makes 200 × 3 = 600 machines. World output is 1,200 textiles and 600 machines: the same textiles and 100 more machines.
• The price of a machine lies between 2 and 3 textiles. At 2.5 textiles, F sells 240 machines to E for 600 textiles. E ends with 240 machines (+40) and 600 textiles (no change). F ends with 360 machines (+60) and 600 textiles (no change). The gains of 40 + 60 equal the extra 100 machines.

Must-know distinctions

Absolute advantage	Comparative advantage
Compares productivity	Compares opportunity costs
One country can have it in every good	Cannot be in every good, when two goods are compared
Does not decide who should specialise	Decides who should specialise
Needs only one country’s costs for each good	Needs both goods in both countries

Assumptions of the model (use for evaluation)

• Constant opportunity costs
• Free movement of resources between uses
• No transport costs or trade barriers
• Identical goods and technology
• Full employment
• Two goods and two countries

If an assumption fails, the real gain is smaller than the model suggests. Workers who cannot move into the expanding industry and rising opportunity costs are the usual weaknesses to name.

Worked reminder: advantage can reverse

Hours per unit in Country K are 4 for steel and 8 for software. In Country L they are 6 and 9.

• K’s opportunity cost of 1 software is 8 ÷ 4 = 2 steel. L’s is 9 ÷ 6 = 1.5 steel. L has the comparative advantage in software.
• Training cuts K’s software time to 5 hours. K’s cost is now 5 ÷ 4 = 1.25 steel, below L’s 1.5. K has gained the advantage in software, and L’s advantage moves to steel.
• Use this pattern to explain why trade flows change when productivity changes.

Who gets the gain?

The split of the gain depends on the price at which goods are exchanged. A price close to one country’s own opportunity cost gives that country almost nothing and gives the partner almost everything. In practice the price is set by supply and demand in world markets, not by negotiation between two economies. Another point worth making is that the model gives potential gains. It does not say that every group within a country gains.

Writing a good evaluation

• Name the assumption that fails, then say what happens to the gain.
• Separate the short run from the long run: costs of job losses come first, while the gains from lower prices and new industries take longer.
• Separate groups: consumers, exporters, import-competing firms, workers in each.
• End with a judgement tied to the case in front of you, such as a small country with one export or a large diversified economy.

Other benefits of trade

• Economies of scale. Export sales raise output, fixed costs are spread over more units, and average cost falls. Example: total cost of 90,000 at 3,000 units gives average cost 30. Total cost of 180,000 at 9,000 units gives average cost 20, a fall of 33.3%. Strongest for firms in small home markets.
• Increased competition. Rivals limit price rises, firms cut costs and improve quality, and consumers gain. Weaker if a few large firms dominate.
• Choice and access. Goods and inputs not produced at home, and wider variety.
• Transfer of ideas and technology.

Costs of trade

Cost	Reasoning chain, in short
Structural unemployment	Import competition closes firms, skills do not match new jobs, unemployment persists
Over-specialisation	One main export, so a price fall or shock hits income hard
Infant industries	New industries cannot compete, so never grow
Environmental costs	Transport emissions and production moving to low-regulation areas
Import dependence	Supply disruption abroad hurts home output
Inequality	Winners and losers differ across workers and regions

Evaluation point: costs fall on particular groups and regions, while the benefits are spread thinly, so trade can raise national income and still leave real losers.

The UK pattern of trade: reasons for change

1. Changing comparative advantage (skills, technology, investment), including a move towards services
2. Growth of emerging economies, as markets and as sources of imports
3. Trade agreements and trading blocs, including the UK’s departure from the European Union in 2020
4. Exchange rate movements
5. Relative costs and productivity
6. Changing tastes, incomes and technology

Method for a pattern question: pick two reasons, give a chain for each, then judge which has the larger or longer-lasting effect, and say why.

Quick self-test

1. Define comparative advantage.
2. Country P can make 8 units of X or 4 of Y. Country Q can make 6 of X or 2 of Y. Find each country’s opportunity cost of one Y.
3. Which country has the comparative advantage in Y?
4. Between what limits must the price of Y (in units of X) lie for both to gain?
5. Can a country with an absolute disadvantage in both goods gain from trade?
6. Two countries have identical opportunity costs. What is the gain from specialisation?
7. A firm’s total cost is 90,000 at 3,000 units and 180,000 at 9,000 units. By what percentage does average cost fall?
8. Give two costs of international trade.
9. Give two reasons why the UK pattern of trade changes.
10. Name two assumptions of the comparative advantage model.

Answers

1. Having a smaller opportunity cost for a good than a trading partner has.
2. P: 8 ÷ 4 = 2 units of X. Q: 6 ÷ 2 = 3 units of X.
3. Country P, because 2 is less than 3.
4. Between 2 and 3 units of X per unit of Y.
5. Yes. What matters is the opportunity cost, so the country still has a comparative advantage in one good.
6. None. There is no comparative advantage to exploit.
7. Average cost falls from 30 to 20, a fall of 33.3%.
8. Any two, such as structural unemployment and over-specialisation.
9. Any two, such as changing comparative advantage and the growth of emerging economies.
10. Any two, such as constant opportunity costs and no transport costs.

Where marks are usually lost

• Calculating absolute advantage when the question asks about comparative advantage.
• Inverting the opportunity cost ratio, so the wrong country is named.
• Stating a price outside the range between the two opportunity costs.
• Describing a benefit or cost without a chain of reasoning, so it stays a list.
• Evaluation that only says “it depends” without saying on what.
• Forgetting to say who bears a cost, or over how long it lasts.
• Using real statistics from memory instead of the data given.
• Writing about tariffs and quotas in a question about the gains from trade.

Official syllabus

AQA Advanced Level GCE in Economics (7136), specification version 1.3, 29 June 2022, published by AQA: section 4.2.6.2 Trade (first part), within The international economy.