The Idea of Trade Through the Eyes of British Economists

When talking about the global economy, the term “trade” is synonymous with the exchange of goods and services by one country, for a price, with another country. The concept of trade emerged due to the non-symmetric distribution of various productive resources in different countries. Trading in the global market allows each of these countries to take full advantage of their endowments and thus, increase their productive capacities. In absence of trade, each country would have to produce even those commodities in which it has absolutely no advantage in production, thus compromising on their efficiency.

The concept of trade can be traced all the way back to the ancient civilizations. Historians believe that the first long-distance exchange of goods happened between Mesopotamia and the Indus Valley in Pakistan in around 3000 BC. A number of economists have given their ideas on trade, which have evolved over the years. In this context, the works of economists like David Hume, David Ricardo and John Stuart Mill are of great importance.

David Hume (1711-1776)

Hume was a Scottish philosopher and economist. Hume made significant contributions to economic thought, most of which later laid the foundation for classical economics. He empirically argued against the British concept of mercantilism, and most of his views echoed those of his friend and countryman Adam Smith. Mercantilists in Britain were of the belief that the prosperity of an economy can be guaranteed only when the country limits its imports and engages in more manufacturing and exporting. This would ensure a steady supply of gold bullions into the economy. In fact, this policy was adopted and used by Britain in almost all of its colonies, including those in Asia.

David Hume brought out how this arrangement of exchanging manufactured commodities for gold hoarded by Britain would end in an outcome not favourable in the long run for them. Hume’s arguments were in tune with the monetarist quantity theory of money which states that the price level in an economy is directly proportional to their money supply. So essentially, when the money supply in an economy increases as a result of trade surplus, there is an excess of gold coming into the economy and this will lead to a rise in the price level in the markets, thus causing inflation. This is where we come across the price-specie-flow mechanism, in which Hume explains that due to this increase in domestic prices arising from the trade surplus, the demand for imports would increase and at the same time, the demand for the country’s products by foreign economies (i.e. exports) would decrease, thus automatically reducing the trade surplus. Hume’s theory, thus, does not advocate for any form of state-intervention to stabilise the trade balance.

David Ricardo (1772-1823)

David Ricardo was another British economist, considered to be one of the most influential classical economists of all times. Like Hume, Ricardo was also against the mercantilist view and was a firm believer of free trade. He gave the theory of comparative advantage in trade, a way which justifies trade even between a developed and a developing economy. According to Ricardo’s idea of comparative advantage, a labour intensive country, like most developing economies, could specialize in the production of labour intensive products and a capital-intensive country, like advanced economies, could produce capital-intensive goods, and the resulting trade between the two countries would ensure gain in efficiency of both the countries. This idea is very much in acceptance with the idea of global trade that is not just among equals.

A notable similarity between Hume and Ricardo is that both these economists were believers in the monetarist quantity theory of money which states that with an increase in money supply, domestic prices will shoot up. Thus, while Hume was seen actively opposing the idea of building a huge trade surplus to facilitate the increase in gold held by a country, Ricardo also opposes the building up of gold reserves, indirectly, by indicating that both the countries should specialise in the commodities in which their cost of production is comparatively lower and then trade to ensure the well-being of both. To extend this view, Ricardo was also a proponent of free trade, i.e. no state intervention resulting in setting up of any kind of barriers to trade.

John Stuart Mill (1806-1873)

John Stuart Mill was also a British philosopher and economist. Although sharing the common English ancestry, Mill had strong views favouring trade protectionism, in contradiction to Hume and Ricardo. The 18th chapter of the third book of Mill’s Principles of Political Economy is famous for setting out the law of international values in terms of the reciprocal demands of the two countries for each other’s products. According to him, the produce of a country exchanges with that of another country at such terms that the whole of her exports is sufficient to pay for the whole of her imports. So, supply and demand are essentially reciprocal.

Mill went on to outline how taxing trade (either imports, or exports, or both) can actually increase the efficiency of the country. When the demand for a country’s commodity in another country is comparatively inelastic, taxing the export of that commodity will essentially drive up the price of that commodity in the international market without significantly reducing the quantity demanded and thus, would generate greater gains from trade for the exporting country. In a similar way, imports can also be taxed and that would protect the domestic producers by preventing foreign countries from dumping cheaply made low-quality goods into the domestic market.

We can thus see that despite arriving from the same British heritage, the views of Mill differ significantly from those of Hume and Ricardo. While Hume and Ricardo advocated for free trade among nations, Mill was of the opinion that tax on traded commodities can increase revenue for the economy. In the current scenario, we see many free-trade agreements and preferential trade agreements in place among nations to dictate their trade terms so that mutually beneficial terms of trade can be reached.

Image source: Investopedia

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