Big Guns on Trade: Ricardo via Malkiel
Wheeling out the big guns at last!
It’s taken a while, but we’ve arrived. At long last we have an article in the Financial Times — our bastion of global financial goings-on — that explains David Ricardo to those who need to know.
Better late than never.
Even better: the article is authored by no lesser a hero of modern financial economics than Burton Malkiel. He delivers the brief lesson in magisterially simple language. He uses France and Britain as his hypothetical trading partners. The message is clear. So clear that even an idiot could grasp its essence which is summarized thus:
“Cutting ourselves off from the benefits of free trade will not make us richer in the long run. Permanent general tariffs will only make the US and foreign nations considerably poorer.”
Thus speaks Ricardo via Malkiel. Two hundred years of experience in the interim and the message remains the same. Score another one for the clarity of thought and insight of economics.
Except.
It gets a bit more complicated than that in the real world. How awful of me to introduce reality. I apologize. It can do real harm to the simplicity of economics.
The point being that France and Britain do not trade with each other. Not at the level of the nation state. Yes, that’s where the accounting takes place. So we add up the score as if France and Britain did the trading. And if you stay at that accounting level Ricardo makes eminent sense.
Reality, though, is that private entities do the trading. People and businesses trade. So the simplification needs to be modified to account for any potential distortions that this reality might introduce.
For instance: the US does not manufacture iPhones in various Asian nations. Apple does. Who benefits from the trading that this implies? Workers in those Asian nations have jobs in factories that might not otherwise exist. Some consumers in the US, those that buy iPhones, get a product at a lower price than they might otherwise have had to pay. And the shareholders of Apple pocket the difference in production costs as extra profit — again assuming that production costs in the US are, indeed, higher than they are in Asia.
Nowhere in this web of activity and assumed advantages does the US itself play a role. So Ricardo’s little example, splendid in its simplicity, ignores all sorts of real-world grittiness that needs to be taken onto account before the benefits, or downsides, of tariffs can be fully thought through.
This is, as we all know, typical of economics.
Ignoring the messiness of reality is a hallmark of economic theorizing. The world is not as simple as those two-dimensional charts showing supply and demand curves suggest it is. Abstracting away from multi-dimensions is great for teaching principles. It sucks as a model of reality.
This is not to say, naturally, that the principle has no value. History does, indeed, suggest that freer trade is better than more limited trade. People do benefit from trading. Which is hardly a surprise given that humans have been trading in one form or another since the beginnings of modernity — which I, in my dogged way, associate with the onset of agriculture and the consequent occasional surplus a good growing season can produce.
The problem is that those same occasional surpluses were fertile ground for the creation of social hierarchies and all the inequalities of power and distribution that flow from them.
Naturally back then trade would have been pretty primitive and limited by our standards. Logistics alone hampered large scale movements. But people with status always have seemed to find a way to get hold of nice things they covet. So there is plenty of evidence of trade even in those less mobile days.
Wherever logistics permitted, though, fairly large movements did take place. The Romans, for instance, moved agricultural products all over the Mediterranean because shipping is much easier for bulk transport than carts are.
Note though, one major point: all that bulk movement was within the boundaries of the empire. Beyond those boundaries there was less bulk and more emphasis on goods associated with status. Silk from China for instance.
Even then we must be careful. The Romans were not trading with the Chinese. People were trading with other people.
Modern trade is of a much more recent origin. It needs both sufficient logistical technology and a surrounding bureaucracy to work. Both those took a while to develop. The possibility of trade at scale drove innovation in both. China had both early on, but decided to withdraw for cultural and ideological reasons. That left the Europeans.
And for the Europeans to trade at scale they needed to overcome the limitations of their geography. The ambitions of the monarchs extended beyond the boundaries of their various kingdoms. This is why the bureaucracy of trade is rooted in the colonial expansion that resulted from overcoming those geographical limits. Ambitious princes were only too happy to allow privateers to travel, conquer, rule, and trade in their name. All they wanted was a cut of the profits from trade.
Who benefited from this trade?
Monarchs, the bureaucrats associated with controlling trade, the adventurers and privateers doing the conquering and trading, and that level of society able to partake of the new goods arriving from exotic shores abroad.
It was not very Ricardian.
Ricardo, like most economics, is a post-industrialization phenomenon. He is focused on extracting simplicity from what was already a highly complex and interconnected system. He was being illustrative. He was not being literal.
But it pays to be more literal.
As modern production became the norm and mass consumption a possibility, the benefits of trade continued to attract attention. Raw materials were needed to feed the newly industrializing areas of the world. The inherited colonial system fitted well with this demand. The outlying parts of empires were seized and then organized to provide material that was shipped to the center where value was added and profit made. Quite how this arrangement fits into Ricardo is not clear. He is discussing, presumably, only voluntary trade. Coercion and imperial bureaucracy seem to have slipped his mind.
Back at home, as the central parts of the empires developed, the societies of those empires were being re-created to accommodate the new economic model industrialization depended upon. Just as the outlying parts of the empires were kept in order to play their role in the overall scheme, so too were the homeland social structures kept in order.
Britain may well have been trading, on paper, with India, but are we sure that the local Indian population benefited much from this trade? And are we sure that the citizens of Britain benefited also? Equally?
Where does Ricardo account for the distribution of the benefits of trade? By accumulating them and doing the theorizing at the hypothetical level of the nation state he elides entirely a crucial detail.
Yes. Comparative advantage looks great. But when we look at the system in more detail it gets more fuzzy. We have to keep asking: who benefits? This is what Ricardo said:
“Under a system of perfectly free commerce … by increasing the general mass of productions, it diffuses general benefit, and binds together by one common tie of interest and intercourse, the universal society of nations throughout the civilized world.”
One common tie of interest and intercourse? Are we sure about that? Only one?
After all, Adam Smith had spotted the potential for varying interests well before Ricardo wrote. Here’s what he said. In two different ways:
“The profiteer of stock is necessarily a citizen of the world and is not necessarily attached any particular country … and would remove his stock to some other country where he could either carry on his trade, or enjoy his fortune at his ease.”
And …
“A merchant, is has been said very properly, is not necessarily the citizen of any particular country”
Smith seems pretty clear that an industrial society is not homogenous. There are classes. Some of which operate beyond the boundaries of a nation state and, which, therefore, creates a tension between those “merchants” and their various homelands. More to the point, as Hobson pointed out later on, in 1902, it creates a pressure on those various homelands to protect the commercial interests of its citizens abroad. And such pressure, almost inevitably, leads to foreign adventures, trade agreements, and the possibility of construction of colonies safe from local interference.
So, who benefits from trade?
Or, as Karl Marx put it:
“The need of a constantly expanding market for its product chases the bourgeoisie over the surface of the globe …. The bourgeoisie has through its exploration of the world-market given a cosmopolitan character to production and consumption in every country .. ”
Which is pretty clear. Like him or not, he understands that trade is driven by forces not well captured by simple Ricardian devices. Yes, advantage is central to the existence of trade. It may be comparative. But distribution also plays a role. It’s how that all that comparative advantage gets translated into profit and/or lower prices that matters.
Again we ask: who benefits?
Which gets us up to date.
Our current volume of world trade has generated an interest in tariffs, but is more a reaction to the consequences of its distributional impact than to the trade itself.
When we treat the entire world as single area for the allocation of capital resources and thus production, but then have to rely on the nation state as the nexus for political and economic remediation of any downsides to that allocation [or re-allocation], we introduce into Ricardo’s simple world a layer of complication that economics prefers to ignore. The conflict between the global benefits of trade and the local disruption implied by the re-allocation of resources across the globe in search of those benefits produces an insoluble problem.
It’s ages old. Both Smith and Marx clearly knew it.
Capital is global in its ambition and reach. Politics, though, is local. Just how much sovereignty are we willing to sacrifice so that the private actors who create and benefit from trade can do so? Who benefits? In whose interest are trade agreements made?
As Joe Stiglitz once pointed out, a free trade agreement should be a very short and succinct document. After all, how many words are needed for two parties to a deal to agree to eliminate all barriers to trade? So why are trade agreements so long-winded and lengthy? Whose interests are being specified in all that language? What is being added? And why?
And here is where we tie it all together:
Those trade agreements are, indeed, between nation states. But they are acting only as agents for the actual traders. They are protecting the interests of private actors who are a privileged sub-set of those nation’s citizenry.
So we get stuck. We get tangled in a three-way web, each axis of which can be reconciled only with one other. We get Dani Rodrik’s famous “trilemma”. Global trade, democracy, and the nation state’s sovereignty are those axes. There are ways to accommodate two at a time. But all three? Not really.
We get, instead, statements like this from the Economist earlier this year:
“The virtue of NAFTA and (to a lesser degree) its successor, the USMCA, is that it ties the hands of governments … giving them the power to limit their own power”
So the nation state, which does not do actual trading, can limit its own power in order to encourage trade by some of its private citizens. We, the polity, surrender a piece of our power in order that a subset can enjoy the fruits of its trade. This is a diminution of democratic control within the polity as a whole. The Economist, steeped as it is in Ricardian virtues, applauds that loss without, apparently, concerning itself with the possibility of a populist reaction.
And like Malkiel, it avoids the topic of distribution, which muddies the waters and makes the consequences of trade a tad more complicated than Ricardo’s notions of comparative advantage suggest.
Who benefits?
Or, as Matthew Klein and Micheal Pettis put it pithily in their book of the same name:
“Trade wars are class wars”
