Political Economist

Draft of Presentation on Ricardo and Foreign Trade

Background:

1)                  Ricardo states that relative prices are determined by relative labor times

2)                  Theory of money: a country with a trade surplus has gold inflows which cause a rise in all commodity prices
A country with a trade deficit has a gold outflow which a decrease in the general price level

3)                  Absolute advantage: a country can produce a commodity cheaper than another country.
Comparative advantage is a countries ability to produce certain goods efficiently to another country even if that other country produces the good more efficiently.
The comparative advantage is the motive of foreign trade.

Ricardo’s theory in Chapter VII:

Balanced trade

Portugal has an absolute advantage in both, England has a comparative advantage in cloth. Portugal will export wine and import cloth, England will import wine and export cloth.

England exchanges a produce of the labor of 100 men for the produce of the labor of 80 men. This would not be possible in domestic exchange, however it is possible in foreign trade because of the immobility of capital and labor.

“The same rule which regulates the relative value of commodities in one country does not regulate the relative value of the commodities exchanged between two more countries.” (p. 99)

At this point Ricardo abandons the labor theory of value.

Trade will only take place if the commodity produced can be sold for more money abroad than at home.

Assume:

England gains 5 ₤ from selling cloth to Portugal, and Portugal gains 5 ₤ from selling wine to England. There are no international money (gold) flows.

Now assume that there is an improvement in England so that the price of English wine is 45 ₤. Consequently, England will only export cloth but cease to import wine. Portugal only imports cloth but does not export wine any more. There are gold flows from Portugal to England. As a result prices in England increase and prices in Portugal decrease, until the point where Portugal will start to export again.

Foreign trade will not affect necessarily profits, unless the import of commodities affects domestic wages. For example: If corn can be imported cheaper than produced domestically wages will fall.

“Foreign trade and the Law of Value”

Shaikh’s main points:

1)      Intention to redevelop/ discover Marx’s theory on foreign trade

2)      There are benefits from trade but not necessarily for the nation as a whole. Trade is undertaken by individual capitalists who engage in trade because they are able to increase their profits through foreign trade. Hence, individuals benefit not the community.

3)      Neoclassical versus Ricardian theory: different theory of price but similar theory of money. Both believe that foreign trade will be to the benefit of every nation involved.

4)      Modern theory of trade as explained in Hecksher-Ohlin model: assumptions: full utilization of resources, same production technologies across regions, same demand across regions. Thus the only difference that remains is the different endowment in capital and labor. Countries with abundance in capital will export capital intensive goods and countries with a large labor force will export labor-intensive goods. Consequently, factor prices are equalized. This mechanism corresponds to Ricardo’s price adjustments through gold flows.

5)      Shaikh: under an independent monetary system the depreciation and the appreciation of the exchange rates have the same effect as Ricardo’s outflow and inflow of gold.

6)      3 orthodox critiques of Ricardo:

a)      Keynsians: accept Ricardo’s general principles of trade but seek to modify it to some extent.

b)      Leontief and Chenery give empirical evidence against the Hecksher-Ohlin model

c)      Argument that Ricardo’s law of trade s correct in principle but that it no longer holds today (government intervention, demise of competition, demise of old standard, loss of wage and price flexibility)

7)      Marxist critiques

accept Ricardo’s conclusion that the law of value regulates exchange within a country but not trade between countries. They accept the law of comparative cost as valid on its own grounds. Emanuel however argues that today capital has become mobile. Hence, the Ricardian model is no longer applicable because profit rates equalize across sectors and, consequently, profit rates in underdeveloped regions will be lowered and profit rates in developed regions will increase.

8)      Shaikh’s conclusion: In Marx’s logic law of comparative advantage is not valid. The developed country will not specialize in the export of one good but will export both. The underdeveloped country will end up with a trade deficit. Hence, “free trade will ensure that the underdeveloped capitalist regions will either have to confine their import needs to the low levels supported by exports, or else they will be chronically in deficit and perpetually in debt” (p.301). FDI might offset the trade deficit but “at the expense of destroying native industries, blocking the development of the indigenous forces of production, undermining the terms of trade, and generating corresponding capital outflows”.