Let's see an example: we are going to look at the production
of two products: shoes and furniture.
Let's suppose that Spain takes 1
hour to make a pair or shoes and 4 hours to make a piece of
furniture, whilst in France they take 2 hours to make a pair
of shoes and 3 hours to make a piece of furniture.
What happens? Spain specialises
in making shoes (as they make them better than France), whilst
France specialises in making furniture (as they make them
better than Spain).
Spain will sell shoes to France
and France will sell furniture to Spain.
Let's imagine now that Spain takes
1 hour to make a pair of shoes and 2 hours to make a piece
of furniture, whilst France takes 2 hours to make a pair of
shoes and 4 hours to make a piece of furniture.
In this case, Spain will have absolute
advantage with regards to France in both products. Let's analyse
the cost of opportunity:
Let's see Spain's situation:
If they produce 1 pair of shoes
(1 hour) they will be prevented from producing 0,33 of a
piece of furniture (every piece of furniture needs 3 hours),
then the relative cost is: 1 pair of shoes = 0,33 a piece
of furniture.
In echange if they make 1 piece
of furniture they will stop producing 2 pairs of shoes,
then the relative cost is: 1 piece of furniture = 3 pairs
of shoes.
Let's see France's situation:
If they make 1 pair of shoes
(2 hours) they will stop producing 0,5 of a piece of furniture
(each piece of furniture needs 4 hours). The relative cost
is: 1 pair of shoes = 0,5 a piece of furniture.
If they make 1 piece of furniture
they will stop producing 2 pairs of shoes. Then the relative
cost is: 1 piece of furtniture = 2 pairs of shoes.
If we compare the situation in
both countries, Spain has the comparative advantage over France
with making shoes (0.33 a piece of furnture against 0,5 in
France), whilst France has a comparative advantage in the
making of furtniture (2 pairs of shoes v 3 in Spain).
This situation will make Spain
specialise in making shoes and France specialise in making
furniture.
Spain will buy furniture from France
as long as they pay the price of less than 3 pairs of shoes
(if they do not reach this deal then they should start producing
their own furniture), whilst France will sell them furniture
as long as they receive more than 2 pairs of shoes (if this
doesn't happen they should manufacture less furniture and
spend more time in producing their own shoes).
Therefore, the foreign trade between
these two countries will develop when Spain buys a piece of
furniture from France they have to give them more than two
pairs of shoes, but less than three.