(iii) Comparative Differences in Costs. If the production costs. in the two countries are comparative between two countries, inter-national trade will inevitably take place between them because both will be benefited by the international trade. This can be illustrated with the following example—
Suppose—India can produce with one unit of labor either ‘2 units of jute or 1 unit of cotton and Egypt can produce with one unit of labor either 2 units of jute or 2 units of cotton. The ratio between jute and cotton in the two countries is—
India :—One unit of jute=1/2 unit of cotton
Egypt :—One unit of jute= 1 unit of cotton
There are comparative differences in production costs of jute and cotton in India and Egypt. If India produces jute only and Egypt cotton, the international trade will certainly take place between them as it will be beneficial to both. By exporting one unit of jute India can obtain one unit of cotton. Similarly, by exporting one unit of cotton Egypt can import 2 units of jute from India. Thus, it will benefit to both of them.
Now India get one unit of cotton in exchange for one unit of jute. If it does not trade with Egypt, it gets only 1/2 unit of cotton in exchange for one unit of jute. Likewise, India now gets 2 units of jute for one unit of cotton in international trade whereas it can produce only One unit of jute as in against one unit of cotton. Both are benefited in this way. Thus, the” permanent international trade between the two countries can take place only where there are comparative differences in costs between the two countries. This is known as ‘Theory of comparative cost.
Finally, the international trade between the two countries is possible in two conditions—(i) if there are relative differences in costs, and (ii) if there are comparative differences in costs. In former case, the trade will be temporary while in latter case, the trade between the two countries will be permanent.
