Comparative costs

There is no proposition so central to orthodox theories of international trade as the so-called Law of Comparative Costs. From Ricardo to Hecksher-Ohlin to Samuelson, in one guise or another, the basic principle has remained unchanged. Even the relentless search of neoclassical economics for a state of perfect triviality has not emptied this particular principle of its content; from the time of its derivation by Ricardo to its current incarceration in an Edgeworth-Bowley Box, this law has continued to dominate the analysis of international trade. Even – and this is surely its greatest triumph to date – even its public exposure as having been all along the hidden law behind modern marriage has not (yet) led to its complete discreditation.

It is not surprising that a principle capable of surviving “improvements” such as the above has managed to also withstand repeated attacks. Before we touch upon these attacks, however, it will be useful to briefly describe the law itself.

There are in fact two distinct propositions associated with this law, and the tendency to conflate the two has been a potent source of confusion in the literature.

Let us begin by considering a country in which cloth and wine are produced and sold at the price ratio (pc/pw)1 in the domestic market. Across the channel is another country in which cloth and wine are also produced and sold locally, generally at a different price ratio (pc/pw)1 than in the first country. Suppose the price ratios are different.