Last week was the 200th anniversary of the most counterintuitive idea in economics. On April 18, 1817, David Ricardo published On the Principles of Political Economy and Taxation, in which Ricardo introduced his concept of comparative advantage. In VoxEU, Douglas Irwin ably explains the significance of Ricardo’s tract:
The key idea behind comparative advantage is that every country, no matter how advanced or behind it might be in the productivity of its labour compared to other countries, would be able to engage in beneficial trade with others. A country with a productivity advantage over other countries would not export everything, but only those goods in which it had a comparative advantage. Thus, paradoxically, an advanced country would find it advantageous to import goods even if it could produce those goods more efficiently than other countries. Conversely, countries behind the technological frontier without an “absolute” productivity advantage in anything (in comparison with others) could still export goods in which its comparative disadvantage was the least and import goods in which its comparative disadvantage was the greatest — and benefit from doing so.
The degree to which this observation continues to not be understood by so many powerful people would be more disturbing if it wasn’t for the fact that it genuinely does cut against one’s intuition. To argue that a country that is more productive at making everything nonetheless prospers more from free trade does not seem obvious. There are additional reasons why free trade benefits the economy, but the principle of comparative advantage is still a powerful argument in the free trader’s toolkit.
That said, Irwin also noted that, “Ricardo was deeply insightful in making this point, but his way of explaining the idea was not exactly lucid and easy to understand.” This is an understatement (see this old Paul Krugman essay for more on why Ricardo’s idea of comparative advantage seems so difficult to explain to others). The most famous example Ricardo used involved the trade of English cloth for Portuguese wine. As Ricardo writes:
If Portugal had no commercial connexion with other countries, instead of employing a great part of her capital and industry in the production of wines, with which she purchases for her own use the cloth and hardware of other countries, she would be obliged to devote a part of that capital to the manufacture of those commodities, which she would thus obtain probably inferior in quality as well as quantity.
The English-cloth-for-Portuguese-wine trade still leads to headlines like CNN’s “How Wine From Portugal Helped Define Free Trade.” But buried in this simple historical example is a fair amount of complexity that is worth remembering. Because the obvious question to ask of a trade between English cloth and Portuguese wine is: Why wouldn’t the English have traded with France for wine instead? France was closer to Great Britain than Portugal, and produced wine that was superior in quality. Why wasn’t that the example Ricardo used?
As John Nye explains in his 2007 book, “War, Wine and Taxes,” geopolitical rivalry explains why the English did not import all that much French wine. Ricardo wrote his magnum opus just two years after the end of the Napoleonic Wars; the idea of trading freely with France was even more heretical than trading with Portugal, an English ally. Repeated wars between England and France caused the former to raise its tariffs against French wine. As Nye writes:
The French had long complained of the pernicious effects of the British tariff system on the French wine trade. Duties and excises on French alcohol to favor Portugal and Spain were initiated in 1667 and 1685 and had been augmented and refined since then both to protect British beverage interests and to generate revenue. A French report to the minister of commerce in 1858 remarked that French wines had been the British drink of choice in the seventeenth century, but that the preferential tariff treatment of Portugal and Spain and the British investment on the continent that followed had led to the French wines being displaced so that French exports to Britain had barely changed in the last hundred years. They were less in the mid-1840s than they had been in the late 1600s, and British per capita wine consumption from all foreign countries had actually declined in the first half of the nineteenth century.
The principle of comparative advantage is powerful. It is nonetheless worth remembering that the iconic example Ricardo proffered was a result not just of comparative advantage but of international relations as well.
It’s almost as if efforts to divorce economics from politics leads to a distorted understanding of how the world works.