The Ricardian Model of Comparative Advantage
An interesting catchphrase that has become commonplace with the development of the globalized economy would be “exports are good, imports are bad”. This statement cannot hold logical validity. Rather, a strategic nation tries to get the most back for what it sells (Wessels, 2012). Furthermore, imports can compensate for lack of development in domestic sectors. A nation with an inherent lack of soil arability, for example, would have difficulty maintaining steady population growth due to an inefficient agriculture sector. Such a nation can compensate for this problem by trading, either by importing more agricultural products or importing fertilizers that can be used by farmers to enhance soil quality. Either way, there is a net benefit (Varoufakis, 1998 & Tormey,2004).
Secondly, mutual benefit is the most fundamental aspect of trade. Put blatantly, nations would not engage in trade if there were no foreseeable benefits for all the involved parties. In other words, one nation benefiting from a trade interaction does not always mean that another will observe a net loss – trade would not exist at all under these circumstances (Wessels, 2012, King, 2016 & Koo, 2009).
One of the first explanations that have been offered about this mutual incentive came from a British economist by the name of David Ricardo, in 1817 (Varoufakis, 1998). His theory is known as the Ricardian model of comparative advantage. To understand how this dynamic works, let us take a simple example.
Suppose that the nation of Bangladesh specializes in the production of clothing, whereby Italy specializes in making wine. If both of the states are under autarky, i.e., they do not engage in any trade beyond the domestic markets, and the workforce is maximally engaged, the production possibilities frontiers could looks something like this:
Secondly, mutual benefit is the most fundamental aspect of trade. Put blatantly, nations would not engage in trade if there were no foreseeable benefits for all the involved parties. In other words, one nation benefiting from a trade interaction does not always mean that another will observe a net loss – trade would not exist at all under these circumstances (Wessels, 2012, King, 2016 & Koo, 2009).
One of the first explanations that have been offered about this mutual incentive came from a British economist by the name of David Ricardo, in 1817 (Varoufakis, 1998). His theory is known as the Ricardian model of comparative advantage. To understand how this dynamic works, let us take a simple example.
Suppose that the nation of Bangladesh specializes in the production of clothing, whereby Italy specializes in making wine. If both of the states are under autarky, i.e., they do not engage in any trade beyond the domestic markets, and the workforce is maximally engaged, the production possibilities frontiers could looks something like this:
This graphical analysis allows us to easily conceptualize the fact that Bangladesh’s clothing sector and Italy’s winemaking industries are far more efficient in comparison to the respective latters. If Bangladesh, for example, were to maximally allocate workforce resources to the winemaking industries, there would be a greater likelihood of economic stagnation. The exact opposite circumstances are true for Italy. Both of the nations may face challenges with optimizing allocation of workforce resources effectively due to this challenge. Moreover, Bangladesh has an absolute advantage over Italy in clothing production whereby Italy has an absolute advantage over Bangladesh in winemaking.
Trade would be one of the ways that these nations could address this issue. If a trade agreement were to be implemented, Bangladesh’s relative inefficiency in winemaking would heighten demands for Italy’s winemaking sector. In order to maintain the supply-demand equilibrium, Italy would have to respond by increasing production from its winemaking sector. This would require greater allocation of resources towards winemaking. Meanwhile, Italy’s relative inefficiency in clothing production would heighten demands for Bangladesh’s clothing production industries, and the Bangladeshi economy would respond similarly by furthering more resources towards its sector of specialty.
The result of this would be specialization. Integration of the two economies, in this case, meant that they would compensate for each other’s weaknesses and be able to play efficiently and strategically to their strengths. By withdrawing resources to sectors in which the countries are not as efficient, which was the case beforehand just in order to satisfy the local demands, economic productivity can be exponentially enhanced (Wessels, 2012 & Varoufakis, 1998).
In practicality, this dynamic becomes much more complicated. Workforce resource allocation in this manner is a very challenging task given the innumerability and substantial diversity of sectors in an economy, combined with the fact that total control is not always attainable – even under Marxism, the activities of the workforce cannot be totally controlled. Nevertheless, the fundamentality of this principle remains unchanged (Wessels, 2012, Varoufakis, 1998 & Koo, 2009).
Such enhancement in economic systems is imperative for the minimization of socioeconomic inequality across the world. If a nation's economy is hindered by having to cater to domestic demands towards a sector in which it does not have the capacity to specialize, excessive resources must be allocated there. To varying degrees, this can slow economic growth. The liberalization of trade, thus, becomes very important in order to alleviate such burdens (Ietto-Gillies, 2012 & Varoufakis, 1998). This would be especially true in the case of developing countries, where local demand alleviated by import sectors (by virtue of free trade), as opposed to exceptionally underdeveloped sectors, can offer more breathing room for national economies to discover specialties and discover unique niches in the globalized economic system. These sectors of specialization, not being as strongly hindered by capacity restrictions, can hold tremendous potential for exponentiated economic development. The influx of profits in the hands of both the people and the government can be used to finance social programs, education, health care and other institutions required to revitalize social conditions and bridge socioeconomic inequality (Beer & Boswell, n.d.).
The Effect of Transnational Commercial Entities
Freeing trade allows for multinational companies to seek economic opportunity in other parts of the world, and effectively expand their base of operations. Not only are these companies, which are often large and well-developed, compelled to establish themselves in other nations due to their self-confidence in the ability to effectively compete with domestic markets, however the expansion of their base of operations also necessitates the externalization of production and management tasks to external vendors. This process is known as outsourcing. The primary incentive behind this practice is that some external vendors, particularly from developing countries where wages are typically lower, are willing to take on tasks for a fraction of the cost required for internalized production. Another incentive behind the expansion of a country’s base of operations overseas is a time advantage – customers of electronics companies, for example, can benefit off the 24/7 informational technology (IT) support possible due to the complementary daylight hours. Just two decades ago, one could not have even fathomed of such a convenience (Wessels, 2012, Varoufakis, 1998 & Koo, 2009).
Furthermore, outsourcing is mutually beneficial. In order for a transnational commercial entity to establish itself in a developing country, it must recruit a workforce. First of all, this puts healthy pressure on developing societies to put a heightened emphasis on education. Fields such as IT, for example, necessitate a wide variety of competencies, notably: (i) multilingualism and global/ cultural understanding; (ii) extensive background in computer technologies; (iii) communication and interpersonal skills; (iv) information management and processing capabilities. Transnational companies who see potential in outsourcing investments in a particular part of the world will also often set up their own educational programs, in an effort to specialize the workforce appropriately (Malaspina, 2006 & Bremmer, 2012). Secondly, jobs- even of the unskilled category – bring influxes of money into the pockets of the many otherwise impoverished people of developing countries. The availability of these monetary resources, combined with the workforce expertise, exponentially widens horizons for: (i) these people directly, who can afford more commodities and increase their immediate standard of living; (ii) community development, as its members are given the capacity to participate and invest in social, educational and medical programs; and (iii) future generations, who are more likely to grow up in better socioeconomic conditions/ quality of life and surrounded by more opportunity. This last effect (i.e. effect on future generations) is perhaps the most significant as it ensures that a developing community can maintain progressive inertia and continually uplift substandard conditions (Bremmer, 2012).
In summary, the net effect of aspirant multinational companies bringing an influx of money and skills into developing countries is characterize by the emergence of new opportunities for socioeconomic revitalization, mitigation of the widespread destitution and the facilitation of a new, progressive inertia. The elimination of barriers deterrent of said multinational companies, therefore, is essential for bridging the substantial socioeconomic inequalities that plague the world today (Malaspina, 2006 & Bremmer, 2012).