For example, the British climate is too cold to grow coffee trees, and Jamaica has no petroleum. But large resources of petroleum exist in the North Sea and coffee trees can easily be grown in Jamaica. Britons and Jamaicans could clearly benefit by exchanging oil for coffee.
Smith's theory of absolute advantage - or absolute productivity differences - remains useful in explaining present-day trade between similar countries such as France and Germany. The average cost of employing a worker in Germany is about the same as it is in France, and capital moves freely between the two countries; and so returns are roughly equals. Therefore, to compete successfully with a cost advantage in the French market, any particular German export must use absolutely less labour and capital when produced in Germany than if the identical item were produced in France.
Trade between similar countries can occur so long as the tastes and incomes of individuals within each country differ and so long as there are absolute cost differences in producing various goods. Thus, people in France and Germany who have modest incomes and require basic transportation, and whose hearts are not set on a high-powered sports car, might purchase Citroens made in France. Wealthy individuals in both countries with an appreciation of high-performance automobiles might purchase Porsches made in Germany. The taste and income differences among individuals within each country interact with specific absolute cost advantages across countries and provide a mutually advantageous basis for international trade. Clearly, if all Frenchmen wanted only to drive Citroens, and if all Germans desired Porsches and had the means to buy them, the scope for trade would be restricted.
Cross-country differences in endowments of minerals, or in climate-affecting agriculture, often provide an obvious basis for international trade. But it is not obvious why similarly situated nations such as France and Germany have differing absolute advantages in various manufactured products. The fact that one special combination of entrepreneurial and engineering skills encouraged the production of Porsches in Germany, and a second such combination led to the production of Citrons in France, is more or less historical accident. Similarly, in Switzerland the craftsmanship required to manufacture watches and clocks could not be predicted from a general knowledge of Switzerland's capital stock and labour force.
The Theory of Comparative Advantage:
Like the theory of absolute advantage, the theory of comparative advantage assumes that resources