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Defending Globalization

The Cato Institute today begins the release of a series of papers in its new and important project “Defending Globalization.” I’m pleased to have contributed the first of these papers; it’s titled “Comparative Advantage.” A slice:

The scholar, financier, and statesman David Ricardo (1772–1823) is credited with first clearly identifying comparative advantage. He did so in Chapter 7 (“On Foreign Trade”) of his 1817 treatise, On the Principles of Political Economy and Taxation. Ricardo used a simple example to show that under reasonable assumptions, even if the Portuguese were technically superior to the English at producing both wine and cloth, if the Portuguese’s superiority over the English at producing wine was greater than their superiority over the English at producing cloth, both the English and the Portuguese would gain if the English specialized at producing cloth, the Portuguese specialized at producing wine, and then each country freely traded with the other.

Ever since Ricardo offered his explanation of what still appears to many people to be a surprising conclusion, the case for free trade has regularly been said to rest on comparative advantage. While correct, the common interpretation of this fact misses an important reality. This common interpretation holds that a pattern of comparative advantage exists and then gives rise to the pattern of specialization and trade that reflects the pre‐​existing comparative advantages. This sequence often happens in the real world but not always.

Adam Smith (1723–1790), whose 1776 Inquiry into the Nature and Causes of the Wealth of Nations was published 41 years before Ricardo’s treatise, demonstrated that specialization is advantageous even without a pre‐​existing pattern of comparative advantage. For Smith, specialization improves workers’ or businesses’ technical proficiency at producing the goods and services in which they specialize. By concentrating on doing a particular task, each producer over time becomes better at performing that task. That is, by specializing, each producer creates for itself a comparative advantage. For Smith, specialization is the source of comparative advantage (although Smith was unaware of this principle’s full reality); for Ricardo, specialization is the result of comparative advantage.

Both Smith and Ricardo are correct. Taken together, their analyses identify a virtuous cycle of improvement in economic productivity. Specialization begets greater comparative advantages, while greater comparative advantages increase the benefits of specialization.