Principle of Comparative advantage

Subject: Economy

Section: External Sector

Context: Indian Industrial Policy doesn’t take into account India’s comparative advantage

What is Comparative advantage?

According to the principle of comparative advantage, the gains from trade follow from allowing an economy to specialise. If a country is relatively better at making wine than wool, it makes sense to put more resources into wine, and to export some of the wine to pay for imports of wool. This is even true if that country is the world’s best wool producer, since the country will have more of both wool and wine than it would have without trade.
A country does not have to be best at anything to gain from trade. The gains follow from specializing in those activities which, at world prices, the country is relatively better at, even though it may not have an absolute advantage in them. Because it is relative advantage that matters, it is meaningless to say a country has a comparative advantage in nothing. The term is one of the most misunderdstood ideas in economics, and is often wrongly assumed to mean an absolute advantage compared with other countries.
India has comparative advantage in labour intensive industry but the industrial policy favours capital-intensive industry.