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CHAPTER XXXII

THE PRINCIPLES OF INTERNATIONAL TRADE

The Principle of Comparative Advantage.-It is to the advantage of a country to devote its powers of production to those trades where it is more efficient than other people; and to exchange its products for the goods of other kinds which other countries can produce more efficiently. Each country gains by specializing in the production of those goods which it is best fitted to produce. This specialization is simply a further phase of the division of labor, and is possible in an advanced degree only because of the stimulus given by the machine technology to the further division of labor. The geographical units in this division of labor may be productive regions which override mere political boundaries. In many cases such regions may be entire continents or broad climatic zones of different continents. The reason why trade between regions of different productive character is commonly termed "international" is because commercial policies as shaped by governments follow national lines, and because trading organizations are based upon national units.

Specialization by nations and regions tends to increase total productive capacity. If two nations abandoned the policy of specialization and tried to produce for themselves what they formerly imported, the total production of the two nations would necessarily diminish. Commerce is therefore a means not merely of efficient specialization, but of greater total production.

The specialization which underlies commerce likewise has the effect of cheapening production. The definite test of a nation's fitness for a certain line of production is the relative cheapness of the product on the international market. A country exports those things which it can produce more cheaply than others. A country imports those things which another region can produce more cheaply than itself. In general, those articles are sold abroad which can be produced at relatively low prices at home. Trade enables a country to obtain goods from the point. where they cost the least

In many types of commodity, there is an absolute advantage in favor of one country. This occurs, for instance, when certain resources are found exclusively within its borders, or when certain crops can be grown only under its climate. Except for commerce, other regions could not obtain these forms of commodities at all. In other types of commodities, either country may be able to produce the goods so far as physical possi

bility is concerned, but one country will be able to produce them relatively cheaper, because of labor and capital efficiency. The comparative advantage is clear. In a third class of commodities, the comparative advantage in production is purely a differential advantage. Assume that country A can produce any one of ten different articles more efficiently and cheaply than country B. If the advantage is very wide in A's favor on the first five products, but only narrowly in its favor in the other five, it may pay A to confine production to the former class of articles and to import the latter class from B. Although A has a relative advantage in the latter class of goods, nevertheless it will pay A to import them because of the even greater advantage which A has in producing the former class of goods. The basis for the division of labor in this case is a differential advantage. Whether the basis for specialization be a differential, relative, or absolute advantage, the source of gain from commerce in any case is the comparative differences of productive powers in the various countries.

This general principle of comparative advantage is a leading part of the doctrine of the classical economists. Ricardo, John Stuart Mill, Goschen and others stated the main features of the principle, and Taussig has restated it with special application to questions of free trade and tariffs. As a generalization, it underlies practically all discussion of the advantages of commerce. Indeed, as a broad proposition there are few people who would deny the truth of it. The real issues which arise in international trade result mainly from the problem of the best methods of putting the principle into practice.

To bring the principle of comparative advantage down to definite application, it is necessary to inquire: Advantage to whom? The obvious answer has been, to the country as a whole: It is better for the country as a whole to employ its productive powers along those lines for which it is best fitted. But it does not follow from this that it is also better for the individual enterprise engaged in business. It does not follow that the private trader who has to earn a profit on his business will gain the greatest money return from such a division of labor between countries. It may happen that the greater profit to the business enterprise may be had by a restraint of international trade, either by protective tariffs or other obstructions. This situation gives a clue to the reason for a very interesting fact, namely, that in spite of the fact that leading economists have repeatedly demonstrated the gain from free trade to the country's total productive capacity, nevertheless business men as a group have remained quite unimpressed by the economist's arguments. The economist is talking about comparative advantage in total production for the country; the business manager is talking about total money return for a certain business enterprise.

The classical economists have largely worked on the assumption derived from Adam Smith that production for the maximum use of the community and production for profit were virtually equivalent. The underlying notion has been that in seeking the largest profit, the in

dividual business is guided as by an invisible hand to the largest production of goods for the use of the community. If that assumption were true the law of comparative advantage would apply literally and irresistibly to the conditions of trade. But Veblen has gone to an opposite extreme, with the doctrine that, as a matter of actual fact in the workaday world, the individual business makes the largest profit only by restriction of production and arbitrary restraint of trade. If we discount Veblen's extreme statement of this matter, we still must recognize that there is a very wide foundation in fact for the assertion that maximum profit involves some necessary restraint of trade. Everywhere we discover business men setting up obstructions to a division of labor on the basis of maximum productivity for each country. The comparative money advantage is not identical with the comparative production advantage.

Consequently, it is well to modify the classical principle of comparative advantage by taking into account the manner in which money profits accrue. If business men were to arrange international trade upon the basis of having each nation produce those things for which it is best fitted, the inroad upon profits would be tremendous. The ultimate outcome might be that under the new order of things, once business had recovered, total income would be greater. However, the business world necessarily thinks in terms of business profits here and now, and whatever promises disaster to such rewards has to be rejected. On an idealistic basis, business should sacrifice everything to the ultimate consideration of increased productivity. But business cannot be run on vague ultimate hopes and aspirations. Not in any mercenary way, but as a matter of the essence of practical business necessity, earnings must be maintained. Given this necessity, it is impossible to push along the principle of comparative advantage any faster than considerations of money profits will permit. Working on the basis of the plain necessity of earning power, we must come to the admission that a nation can specialize in the production for which it is most fitted only in so far as such unrestricted production does not wipe out the indispensable money returns of the business units.

The Principle of Mutual Advantage.-It is to the mutual advantage of countries to exchange the goods which each is best fitted to produce. Every one can see that a nation's exports are a source of gain, but it is equally important to see that there can be no disadvantage in receiving useful objects from abroad as imports. Imports are just as advantageous as exports. It is just as blessed to receive goods from foreigners as it is to sell goods to foreigners. Imports are just as much a mutual gain to both buyers and sellers as are exports.

Not only is this true, but exports are made possible only because of imports. When the United States exports goods, her merchants require to be paid for those goods. How can they be paid? There is only one basic way, and that is by drawing upon the credits which foreigners establish in this country by shipping goods to us. Imports are our pay

for our exports. To put obstacles in the way of imports is simply to prevent our customers from paying what they owe us.

The viewpoint in this statement of principle is again that of the country as a whole. From that viewpoint, it is folly to restrict imports on the supposition that they are somehow harmful to the country. They are our income, and as such are necessary to our wealth. But if we substitute the viewpoint of an individual business enterprise, the nature of the mutual gain takes on a new appearance. The individual exporter is paid by a money transaction, and his immediate and direct concern is simply the financing of the sale. His personal return is not in the form of an import, but in the form of purchasing power put to his account as a bank deposit. The fact that ultimately it is the country's imports which build up the credits out of which such bank deposits are derived is of interest in a remote and indirect way, but the fact which rivets the attention of the exporter is his immediate payment by the credit method. The idea of mutual advantage is more or less meaningless to the exporter, because his pressing necessity is to make a profit for himself from the transaction, and this profit does not require any personal import of goods, but merely a personal money settlement.

Likewise, the importer buys goods for the sake of a pecuniary profit. If he uses the goods to undersell some domestic producer of the same line of profit, the domestic producer loses the market. The home business in this case loses profit, and may be driven out of existence entirely. However much the consumers as a whole may stand to gain from being able to obtain cheaper goods, the individual business man faces loss, and it is but natural for him to oppose such imports. The necessities of private profit may, therefore, compel an individual to obstruct the importation of cheaper goods, even though such importation might be to the advantage of the country as a whole. What constitutes mutual advantage from the viewpoint of the individual enterprise may be quite different from what constitutes mutual advantage from the viewpoint of the country as a whole.

A sharp contrast of viewpoints is apparent, both as to comparative advantage and as to mutual advantage. The viewpoint of private enterprise differs from the viewpoint of national total production. Making dollars for profit differs from making goods for use. Consequently, what is considered to be advantage in any particular case is in the nature of a compromise between two factors, money advantage and production advantage. Production advantage refers to what ought to be the basis of trade where the motive of business is to produce as many goods as possible, as cheaply as possible. Money advantage refers to what has to be the basis of trade where the motive of business is to produce goods only in amounts and at prices which yield necessary profits. A compromise has to be struck between the two. The merging of these two factors in the actual field of trade is a most complicated study. The following paragraphs attempt to give a factual basis for the salient features of such a study.

Geographical Distribution of Trade.-Broadly speaking, all the continents produce raw materials and ship them to Western Europe and Northeastern United States to be manufactured and redistributed. Not but that some manufactures are carried on in nearly all parts of the world, but that the concentration of manufactures exists to a degree which gives these sections the dominating influence in the trade of the world. Prior to the World War, about 64 per cent of the export trade of the world went to Europe. Europe did the bulk of the world's manufacturing. She produced more than half the world's iron and steel and had upwards of three-fourths of the world's wool and cotton spindles. She was the great source of consumable manufactures and the chief market for the products of every other continent.

Europe has long been the most important market for the foreign trade of the United States. For the five-year period from 1910 to 1914, Europe took 62.3 per cent of our total exports and furnished 49.6 per cent of our imports. The importance of Europe has since declined somewhat, partly due to a normal trend which was already evident in 1914, but also due to the abnormal effects of war and post-war conditions. Thus, in 1922, Europe took 52.4 per cent of our exports and furnished 31.8 per cent of our imports. Although this shows a relative falling off in the importance of Europe, nevertheless Europe is still by far our most important foreign market. The band of countries around the North Sea, with about 200,000,000 people, were in 1913 more important in the trade of the United States than the entire 1,300,000,000 of the rest of the world.

The diagram below indicates the per cent of United States imports and exports by continents, and brings out some important trends of trade.

FOREIGN TRADE OF THE UNITED STATES, GRAND DIVISIONS

Aver

Grand Divisions

(Fiscal Years)

Aver

age, 1919-1920-1921-1922- age, 1919-1920-1921-1922-
1910-1920 | 1921 1922 1923 1910-| 1920 1921 1922 1923
1914
1914

Per Cent of Total United
States Exports, by
Grand Divisions

Per Cent of Total United
States Imports, by
Grand Divisions

Europe

62.3

Africa

60.0 52.3 54.8 51.4 49.6 North America 23.1 20.2 25.3 23.8 26.4 20.5 South America 5.6 6.1 8.0 5.1 6.5 12.3 Asia 5.6 10.7 9.7 12.7 11.0 15.3 Oceania 2.2 1.4 2.6 2.2 3.0 1.0 1.2 1.6 2.1 1.4 1.4 1.5

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United States Department of Commerce, Trade Information Bulletin, No. 157, p. 10.

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