Why Doesn't the US Manufacture Everything it Needs?

Take a look at the tag on your T-shirt. Chances are it says "Made in Vietnam" or "Made in Bangladesh." If you looked at the packaging of your iPhone, it would probably say "Assembled in China."

However, the US is the biggest economy in the world, which means they also have the most advanced resources to produce these things. So why don't they just make all this stuff at home?

The answer to this question comes down to three big economic concepts: absolute advantage, comparative advantage, and opportunity cost.

Absolute vs. Comparative Advantage

Absolute Advantage means being the best at making something, meaning you can make it the fastest or produce it in the greatest quantity. The US holds the absolute advantage in T-shirts, meaning it could probably make T-shirts faster than most countries if it wanted to.

Comparative Advantage is different. Rather than focusing on how well you can produce something, it’s about what you can make at the lowest opportunity cost.

Opportunity Cost is simply what you give up when choosing one thing over another. the opportunity cost of building a factory that makes T-shirts is giving up the chance to use those same resources (land, workers, and capital) to build something with higher value, like an airplane factory.

So even if the US could make T-shirts, it would lose more by not focusing on its real strengths.

Why is this so important for trade?

To simplify the problem, let’s imagine the US and Bangladesh can produce only two things: airplanes and T-shirts.

If the US puts all of its resources into airplanes, it can make 100 airplanes. If it puts everything into T-shirts, it can make 1,000 T-shirts.

If Bangladesh puts all of its resources into airplanes, it can make 5 airplanes. If it puts everything into T-shirts, it can make 500 T-shirts.

We can visualize this in a chart, like so:

Country	Airplanes (if 100% resources)	T-shirts (if 100% resources)
US	100	1,000
Bangladesh	5	500

Who has absolute advantage?

Absolute advantage means who can make more of a product.

US manufacturing is more developed, and is therefore more efficient, so they can make more airplanes (100 vs. 5) and also more T-shirts (1,000 vs. 500).

This means the US has an absolute advantage in both products.

Who has comparative advantage?

Here’s where it gets interesting. Even though the US is technically better at both, it still makes sense to specialize based on comparative advantage. That's because of opportunity cost, which remember is what you give up when choosing one thing over another.

In the US:

• 1 airplane = 10 T-shirts

• That's because at its absolute maximum, the US can EITHER produce 100 airplanes OR 1,000 T-shirts. Therefore, for each airplane they produce, they're giving up the opportunity to produce 10 T-shirts.

• The inverse is also true. For every T-shirt made, they're sacrificing making 1/10 of an airplane.

Bangladesh

• 1 airplane = 100 T-shirts

• At their absolute maximum, Bangladesh can EITHER produce 5 airplanes OR 500 T-shirts. Therefore, for each airplane they produce, they're giving up the opportunity to produce 100 T-shirts.

• The inverse is also true. For every T-shirt made, they're sacrificing making 1/100 of an airplane.

Notice that the US gives up fewer T-shirts per airplane, and Bangladesh gives up fewer airplanes per T-shirt. In other words, when it comes to making airplanes, in terms of T-shirts, it costs the US less to produce one airplane than it costs Bangladesh (10 T-shirts per airplane for the US versus 100 T-shirts per airplane for Bangladesh). Conversely, when producing T-shirts, in terms of Airplanes, it costs Bangladesh less to make one T-shirt than it costs the US (0.01 airplanes per T-shirt for Bangladesh versus 0.1 airplanes per T-shirt for the US).

I know that may seem confusing, so let's look at how it actually applies to trade.

Application to Trade

When trading, the US and Bangladesh could agree on an exchange rate for airplanes and T-shirts. In the US, one airplane is worth 10 T-shirts (remember that's the opportunity cost of producing a plane in the US). However, in Bangladesh, one airplane is worth 100 T-shirts. This is because their manufacturing is less developed, so it takes a lot more resources to produce an airplane. Those resources that could otherwise be used to make T-shirts, an area in which they are more efficient.

Therefore, rather than "paying," or giving up a full airplane, to make 10 T-shirts domestically, they could simply buy their T-shirts from Bangladesh, where they may be able to get 50 T-shirts at the price of one airplane. This is a deal that Bangladesh would also profit from. If they tried to make their own airplanes, it would cost them 100 shirts for each one that they produced. However, through trade with the US, they can now get an airplane for half that price, 50 T-shirts.

In this scenario, both countries end up with more airplanes and more T-shirts than if they tried to make both on their own.

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This is why the U.S. imports so many products like clothes and electronics: it’s not because the U.S. can’t make them, but because it’s smarter economically to focus on what it does best and trade for the rest.