Static and Dynamic Comparative Advantage: A Multi-Period Analysis with Declining Terms of Trade
There is no body of economic theory that has achieved greater professional acceptance than David Ricardo's theory of comparative advantage and the modern emendations of Ricardo's "law." Criticisms of comparative advantage and its extensions from a theoretical perspective have not resulted in any substantial weakening of the overall strength of this body of theory nor of its corollary, a free trade regime. Certain special-case exceptions to the law of comparative advantage have been demonstrated. Jagdish Bhagwati showed that under unrestricted free trade "immiserizing growth" could occur [Bhagwati 1958]. More recently, the "new" trade theorists have focused on the policy implications of trade under conditions of increasing returns and imperfect competition, arguing that under such conditions violations of free trade policy could be optimal. 1 Our purpose is not to revisit these issues. Rather, we intend to reconsider the theory of comparative advantage from a more dynamic perspective than is found in the literature. We believe it is possible to demonstrate that the basic Ricardian theory of comparative advantage, including its extensions, is too static a theory on which to rest a first-best argument in favor of free trade in quite a number of realistic scenarios. Especially for poor, less-developed nations, we show that the generalized argument in favor of free trade policy derived from trade theory cannot be sustained once one takes the long-term historical trend of the terms of trade into