ABSTRACT
The idea of trade Adam Smith was opposed to the mercantilist trade doctrines of his day which held that a country’s economic strength was reflected in a positive balance of trade, to be achieved by encouraging exports and restricting imports. Smith argued on the contrary that all countries could gain if each practised free trade and specialized in the production of those commodities in which they had an absolute advantage in terms of labour productivity. However, it was the insight of David Ricardo to see that trade beneficial to each country did not depend on its having an absolute advantage in the production of any commodity, but rather on the much less demanding criterion of ‘comparative advantage’. Ricardo used as his example that of the trade between England and Portugal. If England produced cloth more efficiently than it did wine, and Portugal produced wine more efficiently than it did cloth, then trade beneficial to both countries could ensue if England specialized in cloth and Portugal in wine, irrespective of whether either country had an absolute advantage in labour productivity for either commodity. By specializing in the production of that commodity that each country produced most efficiently, resources would be liberated to produce further commodities, and average incomes would rise. Ricardo’s theory has undergone many refinements since his time. In the twentieth century, Swedish economists Eli Heckscher and Bertin Ohlin constructed a model of the whole economy including trade, based on a strict set of neoclassical assumptions, and showed that a country would have a comparative advantage in those goods which in their production make intensive use of the country’s relatively abundant factors (whether capital, labour, or natural resources). Although the emphasis was shifted from one of technology – which underlay labour productivity – to one of a country’s endowments more broadly considered, the essence of Ricardo’s result remained intact. And as Paul Samuelson later demonstrated under a similarly strict set of assumptions, free or unfettered trade provided a higher level of overall welfare in a Paretian sense than less-than-free trade.1
