Ricardo China and Compartive Advantage

China, Ricardo and  Comparative Advantage

Almost 200 years ago to the day the illustrious Scottish economist, David Ricardo wrote a theory that is to this day is taught, almost as Gospel,  to every first year economics student in Namibia, Botswana and rest of the world. In his famous theory of Comparative Advantage there were two countries, Portugal and England and even if Portugal is more efficient at producing say, cloth and wine than England it would be to the advantage of both countries if they were to specialize in that area in which the relative cost of production were lower. Bringing this from the early 19^th century to the 21^st century, even if China is absolutely more efficient at producing manufactured goods, it is in the advantage of both China and America if  China specialized in manufactures and America is services  and agriculture. The upshot is that even if the Americans are less efficient than the Chinese they will still have jobs.

Nice theory, but to theear of the average businessman who actually understands  comparative advantage it sounds like the commercial equivalence of the tooth fairy. But no businessman or economist will tell you publicly that they think that this orthodox theory of trade is simply so much rubbish because to do so would leadto  beinglabelled an ignoramus. If you are better at everything and you are big enough to do so, then you just produce everything and wipe out your less efficient competitors- that is, after all,  the way of the market! Ricardo was, amongst many things a very astute businessman like so many economists of his day. Unfortunately economists today rarely read Ricardo, know little about business and rely on these orthodox theories so they can help the children and the politicians sleep at night.

Ricardo argued that if workers in the city of Liverpool are more efficient at producing everything in comparison to London then manufacturers will simply move to Liverpool and wipe out the less efficient London based competitors.  And yes, the businessman would say that this makes commercial sense. But in  Ricardo’s early 19^th century world moving to Liverpool is not the same as moving to Portugal. Ricardo’s theory which is the basis of all orthodox theory of trade  was based on the assumption that investors would not move from Britain to Portugal which may well have been valid at the time. Portugal was just too alien for the average 19^th century Englishman. Fast forward 200 years and the assumption that investors will not move from one country to look for higher levels of efficiency looks like so much nonsense.

If capital is hyper mobile, as it is today, there is no reason to believe, as Ricardo himself would have argued, that countries will specialize in the area in which they have a comparative advantage. China, a nation of 1.3 billion people has an absolute cost advantage in just about everything and is large enough is perfectly capable supplying everyone else in the world simply because it is cheaper.

The new right in the developed world eg Trump in the US and Le Pen in France have tapped into a deep well of anger amongst the once prosperous high school educated western working man who has seen their real wages fall or stagnate as a result of global trade, automation and fierce competition form  low cost labour. It is these that have been the bulwark of support for the new-right. They know that China is now big enough to produce virtually everything the world needs or more accurately, has been convinced to want and their jobs and prosperity is on the line.

And while modern free market economists have never lost an opportunity to remind the world that globalization and liberalized trade have helped  lift  hundreds of millions of Chinese workers out of poverty, they are less likely to even mention that globalization also lifted their employers from the status of multi-millionaires to billionaires. It is the combined effect of diminished prospects for working people in the developed countries combined with deep resentment of the massive wealth accumulated by those at the top who benefited that is at the heart of the right wing reaction to free trade and globalization.

But even those, like the present writer,  who recognize that freer trade has been of benefit to large swathes of humanity,  the so-called ‘new generation trade agreements’currently being negotiated as the Trans-Pacific Partnership risks giving enormous powers to large firms to litigate against governments that change laws that undermine their profitability. If governments introduce laws on environmental or health matters the investor to state dispute settlement mechanisms allow companies to sue governments for changing laws. This is a step too far as it is a massive intrusion on the right of democratic societies to pass laws that they deem to be in the national interest. This constitutes a shift in power in favor of big business and has little to do with little with any common understanding of a freer trading system.

Unless the comfortable elites of the developed world who have benefited from 35 years of free market economics shift their thinking and start to advocate and aggressively drive a more just and equitable globalization then the writing is on the wall and we are in for trouble. Finally there is starting to be some change of thinking and that very bastion of reaction, the International Monetary Fund  has become open to new ideas about globalization under the leadership of Director Christine Legard and is showing the way about thinking about a new and fairer world order. Change will come one way or another but whether it will be ordered change or follow a period of great human ugliness is yet to be determined.

These are the views of Professor Roman Grynberg and not necessarily those of UNAM where he is employed.