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SPEAKING
FREELY
Comparative advantage: Comparative exploitation
By Gernot Kohler
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Comparative advantage is like statistics: it may show part of the truth, but it
may also hide the truth and fool the public. The theology of global
neo-liberalism preaches that there is abundant comparative advantage accruing
from free trade. Yet, as the United Nations Conference on Trade and Development
(UNCTAD) and others have criticized, the reality of many countries tells
otherwise: they export more and more, but do not reap the promised benefits. To
understand this, it may be useful to understand how one can lie with
"comparative advantage".
Comparative-advantage theory makes four general claims: (1) if countries trade
with each other, they are better off than if they have no trade (ie, the
trade-versus-no trade argument); (2) the gains from trade are mutual (eg, in a
two-country situation, both countries gain from trading); (3) gains from trade
may result from "comparative advantage" - ie, even if one country is more
efficient than the other, trade may still be advantageous for both; (4) because
of 1, 2 and 3, it is generally advisable for countries (a) to trade with each
other, (b) to specialize, and (c) to trade freely.
The validity of comparative advantage depends on the wage-price levels of the
trading countries. If the wage-price levels are the same or similar, then the
theorem of comparative advantage may be valid. However, if the wage-price
levels of the trading countries are significantly different, then the claim of
comparative advantage is not valid and, on the contrary, then it hides the ugly
reality of unequal exchange (global exploitation).
I will examine a textbook model of comparative advantage in two different
situations: (1) when both countries have the same wage-price level; and (2)
when there is a significant difference in wage-price levels.
Comparative advantage is usually explained in terms of an example with two
countries and two goods. David Ricardo, the father of this theory in 1817, used
the two countries of Portugal and England and the two goods of wine and cloth.
I will use a modern textbook example with the countries United States and
United Kingdom and the goods of wheat and cloth (Dominick Salvatore 1987, pp
27-29). Salvatore's example is summarized in Table 1.
Table
1 - Example of comparative advantage
Please
click here. The table will open in a new window. |
Explanation of Table 1
[Line 1] In a situation of autarky (no trade) the US could produce and consume
90 units of wheat and 60 units of cloth. The UK could produce and consume 40
units of wheat and 40 units of cloth. It seems to be assumed that both
countries have the same number of workers. Thus the US is more efficient than
the UK in both wheat production and cloth production.
[Line 2] If the two countries engage in international specialization and
international trade, they might produce what is shown in Line 2 - namely, the
US produces 180 units of wheat (and no cloth); the UK produces 120 units of
cloth (and no wheat). (This is based on a separate argument, not shown here,
concerning the opportunity costs of the two countries.)
[Line 3] They trade with each other - namely, they exchange 70 units of each
product.
[Line 4] After the trade is made, the US consumes 110 units of wheat and 70
units of cloth. The UK consumes 70 units of wheat and 50 units of cloth.
[Line 5] A comparison of the consumption patterns in autarky (no trade, Line 1)
with the consumption patterns with trade and international specialization (Line
4) reveals that there are gains from trade for both countries, which are shown
in Line 5 - namely, both the US and the UK consume more of each product due to
specialization-with-trade.
Table 1 illustrates the four claims of comparative-advantage theory, namely:
1. Trade may be better than no trade.
2. Both sides may gain from trade.
3. Even the side, which is less efficient in each category than the other, may
gain; and the trade may also be beneficial for the side that is more efficient
in each category.
4. International specialization of production may be advantageous for both
sides.
Problem No 1
The first mistake in the above model of comparative advantage arises from the
fact that the example represents barter trade; that is to say, wheat and
cloth are exchanged in physical units (bartered).
However, most international trade takes place in money-valued terms. A
country's exports and imports are usually measured as dollar, yen, ruble, etc.
The balance of payments of a country is defined in terms of money balances
(export revenue and import payments, etc), rather than physical measures (tons,
number of pieces, etc).
In order to correct for this problem, we must insert a money dimension into the
table and show how the trade is made in terms of money values - eg, $70,000
worth of wheat exchanged for $70,000 worth of cloth. This leads us to a revised
Table 2. In this table we assume that the wage-price levels of the US and the
UK are the same.
Table
2 - Example with money dimension
Please
click here. The table will open in a new window. |
Explanation of Table 2
Columns 2, 4, 6, 8 have been added. Thus, for each column with physical units,
we now have another column with money values. For example, 90 physical units of
wheat (eg 90 tons of wheat) are now associated with 90 monetary units (eg
90,000 rupees). We arrive at the monetary value by multiplying the physical
quantity times the wage-price level - in this case, 90 (monetary units) = 1
(wage-price level) times 90 physical units.
Another major difference between the previous table and this one is in Line 3.
The export-import values of +70 and -70 are placed in the money-valued columns
and not in the physical quantity columns. This represents the reality that
international exchange takes place in terms of values (dollars, rupees, yuan,
rubles, etc) and not in terms of physical quantities (kilograms, tons, number
of pieces, etc).
Table 2, like the previous table, illustrates the four claims of comparative
advantage theory, namely:
1. Trade may be better than no trade.
2. Both sides may gain from trade.
3. Even the side that is less efficient in each category than the other may
gain, and the trade may also be beneficial for the side that is more efficient
in each category.
4. International specialization of production may be advantageous for both
sides.
Problem No 2
The second mistake in the standard model of comparative advantage is the fact
that the global wage-price differential is ignored. We all know that there are
high-wage and low-wage countries, and global capitalists benefit greatly from
this differential; yet comparative-advantage theology takes no note of this
fundamental reality.
In order to correct for this problem, we must revise our table once more and
introduce an international wage-price differential. This leads to Table 3, in
which one country has a wage-price level equal to 0.5 (this is the low-wage
country) and the other country has a wage-price level equal to 1 (this is the
high-wage country). In the real world, the wage-price gaps between poor and
rich countries can be greater than that.
Table
3 - Example with global wage-price
differential (levels = 0.5 and 1.0)
Please
click here. The table will open in a new window. |
Explanation of Table 3
The format of Table 3 is the same as that of the previous table. I have changed
"United Kingdom" into "high-wage country" with the same wage-price level as
before, namely, equal to one. Its production pattern is the same as in the
previous table. "USA" is changed into "low-wage country" with a new wage-price
level of 0.5. Its production pattern is the same as in the previous table, but
the money-value of the produced output is changed.
[Line 2]
When USA was "USA" in Table 2, it earned 180 monetary
units for 180 physical units of wheat (namely, 180 =
1*180). Now, this country is a "low-wage
country" in Table 3, with a wage-price level of 0.5, and it earns only 90
monetary units for 180 physical units of wheat (namely, 90 = 0.5*180) - half of
its previous earnings.
[Line 3] The exchange of +70 and -70 (import and export) takes place as in the
previous table. However, the international wage-price differential enters the
exchange. Cloth is exported from high-wage country (and imported by low-wage
country) at the (high) prices of high-wage country. In contrast, wheat is
exported from low-wage country (and imported by high-wage country) at the (low)
prices of low-wage country. As a result of this trading between unequal
partners, we arrive at a highly unequal outcome.
[Line 4] Whereas low-wage country produces all internationally available wheat
(namely, 180 units), it consumes only 40 units of wheat after the so-called
comparative advantage trade. In contrast, high-wage country, which produces no
wheat at all, consumes 140 of the globally produced 180 units of wheat. At the
same time, high-wage country was able to sell a substantial part of its cloth
production to low-wage country at its comparatively high high-wage-country
price.
[Line 5] The bottom line shows how bad the unequal exchange was. This line
compares the free-trade situation with the autarky situation. In free trade,
low-wage country consumes less wheat than in autarky (-50 physical units), even
though it is now specialized as being the world's only producer of wheat. In
contrast, high-wage country consumes substantially more wheat than in autarky
(+100 units). Both countries consume more cloth in free trade, as opposed to
autarky.
Table 3 shows that, due to the global wage-price differential (levels 0.5 and
1.0), the payoffs of free trade do not conform to the promises of comparative
advantage at all. On the contrary, Table 3 illustrates that:
1. For the low-wage country, trade may be worse than no trade.
2. Only one side may gain from trade, while the other side is exploited.
3. Free trade and international specialization of production may lead to
comparative disadvantage for one side.
4. The claim of comparative advantage is false and is a mask of unequal
exchange, if the wage-price levels of the trading partners are significantly
different.
Unequal exchange and immiserizing growth
My results are in line with well-known teachings on international trade by Raul
Prebisch, Arghiri Emmanuel, Samir Amin and others, who have pointed out that
international trade between developing and developed countries is unequal (ie,
unfair) and is biased in favor of the developed countries and against the
interests of the Third World.
Emmanuel, who coined the term "unequal exchange", argued that unequal exchange
is, ultimately, caused by the difference in wage levels between developed and
developing countries. Emmanuel points out that there is a relationship between
the undervaluation of labor and the undervaluation of exports of low-income
countries and stresses that "... inequality of wages as such, all other things
being equal, is alone the cause of the inequality of exchange" (Emmanuel 1972,
p 61). Another scholar who raised a warning flag was Jagdish Bhagwati (1956),
who pointed out that deteriorating terms of trade may lead to immiserizing
growth.
Conclusion
The talk about comparative advantage is frequently nothing but propaganda. The
theorem of comparative advantage lends itself to that kind of abuse because its
validity is limited to trade between countries with similar wage-price levels.
However, if there are significant wage-price differences between countries, as
is frequently the case, then the theorem of comparative advantage is invalid
and the trade tends to be an unequal exchange.
References
Bhagwati, Jagdish (1956) "Immiserizing Growth: A Geometrical Note," Review of
Economic Studies, June 1956.
Emmanuel, Arghiri (1972) "Unequal Exchange: A Study of the Imperialism of
Trade." New York, USA: Monthly Review Press.
Ricardo, David (1817) On The Principles of Political Economy and Taxation.
London, UK: John Murray, Albemarle-Street, 1817.
Salvatore, Dominick (1987) International Economics. 2nd ed. New York,
USA: Macmillan, 1987.
Gernot Kohler, is professor emeritus at the School of Computing and
Information Management, Sheridan College, Oakville, Ontario, Canada.
Speaking Freely is an Asia Times Online feature that allows guest
writers to have their say. Please
click here if you are interested in contributing.
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