Blog 80: Comparative Advantage by Xavier Lo, FIA, FRM, MBA

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A lot is going on in the financial markets at the moment, with oil prices going crazy, cryptocurrencies [加密貨幣] flying all over the place, and stock markets crashing. Time for a quick economics refresher: Comparative Advantage [比較優勢理論].

In general, what does Comparative Advantage mean? I think its best to use an everyday example. Imagine yourself living at home with your parents and you were asked to do chores [家務]. I’m not sure about you, but for me, I think that my parents do every single chore better than I do, so it sort of makes sense that my parents do everything and I just sit there and do none of it right? That’s where Comparative Advantage comes in. Although its true that my parents can cook, vacuum and wash clothes better than I do, I’m decent at vacuuming [吸塵]. So in other words, they are better than me at everything, but relatively less better in vacuuming. To put it scientifically, they have an absolute advantage [絕對優勢] over me for every chore, but I have a Comparative Advantage at vacuuming. So from an efficiency point of view, its quite intuitive that I end up vacuuming, and my parents do cooking and washing.

How does this scale up to the economics of the world? Well lets think about China. They manufacture a lot of things to export [出口], so they are pretty good and have processes in place to do that. I’m sure China is pretty good at other things too, but the opportunity cost [機會成本] of not manufacturing exports is quite high for them. In other words, they don’t want to waste time doing other things other than manufacturing. If you look at every country in the world in the same way, you’ll then be able to understand why some countries are pretty good at everything, but only do one or two things really well (then leave everything else to others).

A bit of a theory-heavy blog today. However, with everything that’s going on in the world right now, a bit of economics might be useful if you’re trying to understand the crazy price fluctuations!

About the Author

Xavier Lo, FIA, FRM, MBA

Qualified fellow actuary (in UK and Hong Kong), Financial Risk Manager, and MBA graduate (listed on the Dean's List) with a passion for insurance, data science, and analytics. Experienced in a broad range of insurance roles (pricing, capital modelling, reserving, ERM), along with a touch of knowledge in banking. Member of the General Insurance Committee (2021), Actuarial Innovation Committee (2019 - 2021) in ASHK.

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