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The pedagogy of comparative advantage
What does the theory of comparative advantage (or see the Wikipedia entry) actually predict?
1. Every person will trade with every other person in the world. This is clearly false, although it would seem to follow from some presentations of the concept.
2. In a world of only two people, they will probably trade with each other. This is very likely true (especially if they are both "hot"), though not certain at the theoretical level.
3. Everyone will trade with at least someone. Whoop-dee-doo.
Worse, #3 is not even true.
The key counterexample is animals. They have well-defined preferences, downward-sloping demand curves, demand for multiple commodities (if only both food and water, plus of course sex), and differential abilities. Yet most animals don't trade with any other animals.
Why not? There are high fixed costs to trading at all. Most animals can't overcome those costs. They aren't smart enough. Lack of opposable thumbs, or lack of extended long-term trust, are other obstacles, not to mention "fear of being eaten." There is nothing in a Walrasian model to rule out q = 0 no matter what kind of critters are walking around.
In human communities there will be much more trade than we find amongst the eagles. But the theory of comparative advantage deflects our attention away from the fixed costs of trading. As a result, many people overestimate the benefits that free trade (which, I might add, I fully favor) will bring to the developing world. And they underestimate the importance of those fixed costs of trading in holding nations -- and people -- back from a better future.
Posted by Tyler Cowen on August 21, 2006 at 01:47 PM in Economics, Education | Permalink
Comments
Well, the biggest problem is the lack of enforceable contracts in non-human societies. Trading does exist (known as mutualisms or cooperation), but understanding how cheaters are contained in these often-anonymous systems is a growing research area for biologists.
Posted by: ant at Aug 21, 2006 1:55:48 PM
The comment on the costs of trading brings De Soto's work to mind.
Posted by: J. at Aug 21, 2006 2:00:14 PM
I disagree with the notion that animals don't trade. I would say EVERY animal trades, as pretty much every animal has symbiotic relationships with other organisms. Animals trade carbon dioxide with plants for oxygen. They trade food with microorganisms for digestive "services" etc.
Posted by: Doug at Aug 21, 2006 2:12:17 PM
"The key counterexample is animals" Actually this is irrelevant, because economics deals with humans, not animals.
Posted by: Kurt at Aug 21, 2006 2:19:21 PM
Animals come into conflict with each other and fight over pasture, females, food...etc. Conflict and fighting is a form of trade because the animals exchange their current health for future consumption. Moreover, many animal conflicts do not result in fights but are instead resolved by one animal surrendering to the other's threatening gestures. I think there's a game theoretic literature on this somewhere.
Posted by: camello at Aug 21, 2006 2:50:15 PM
Symbiosis (between species) and reciprocal altruism (within species) are examples of trade between animals. And sometimes other organisms.
Posted by: Mike Huben at Aug 21, 2006 2:52:52 PM
All you people, I am not saying that animal trade is zero, only that it does not follow a priori.
Posted by: Tyler Cowen at Aug 21, 2006 3:08:15 PM
Quoting from one of my working papers:
"There is a body of closely related literature in management on "cooperative" behavior. For a taxonomy and discussion of 13 types of "prosocial" organizational behaviors see Brief and Motowildo (1986). For propositions linking cooperation to reciprocity see Griesinger (1990); especially "Proposition 10," on page 489.For studies on dolphins, see Charles Tailor and Michael McGuire (1988); on chimpanzees see: de Waal (1982), de Waal and Luttrell (1988), and Jane Goodall (1986); on baboons and other social vertebrates see Alcock (1998); on vampire bats see Gerald Wilkinson (1990); and for an excellent discussion including references to humans see Wright (1994). Also see deWaal (1997)."
It is easy to find reference about reciprocal "altruism" among animals. Vampire bats for example engage in reciprocal "altruism". A successful bat returns and share with an unsuccessful one; later, biologists observe the roles reversed as the "altruism" is reciproacted.
The notion that animal behavior PROVES the impotence of the notion of comparative advantage is silly.
Posted by: jim at Aug 21, 2006 3:12:19 PM
Illustrations of the theory are always presented with the assumption that it costs nothing to trade. This is a very standard assumption in economics as we all know and is not in any way exciting. The realization that the theory doesn't hold perfectly in the real world because - gasp! - the assumptions don't hold perfectly in the real world is news to exactly no one.
Not really seeing the point, here. If the lesson is that transaction costs are real and thus the gains from trade to developing nations are not as large as we might think... well, who's imagining they are "free" in the first place? Does this "realization" have any actual policy ramifications?
Posted by: Noah Yetter at Aug 21, 2006 3:17:02 PM
Matt Ridley is a biologist and popular evolutionary writer, who used to be science editor for The Economist. His book Origins of Virtue is excellent and very enjoyable on the subject of trade among animals.
In a nutshell, the history of evolution of life on earth is one of increasing complexity, because complexity is potentially more efficient, but each stage of increasing complexity needed systems to overcome the problem of free-riding/ cheating (taking the advantages without bearing the costs) in co-operative systems.
Ridley describes the kind of scenario by which merchants developed laws in order for them to trade more - indeed, he suggests that this is the origin of law in the modern sense.
As implied by several commentators, trade is a matter of overcoming the temptations of taking short term personal advantages in favour of increasing long term general advantage. This requires the development of new forms of higher level 'cognitive' development, such as the rule of law in economies.
Posted by: Bruce Charlton at Aug 21, 2006 4:00:25 PM
I don't know where these supposed predictions
came from, Wikipedia? If so, one more reason
to be cautious about what one reads there.
All careful trade theory assumes no transport
costs, as well as no transactions costs. In
the real world, trade theorists know that the
higher transport costs are, the less trade
there will be and the less specialization.
No remotely knowledgeable trade economist
would ever predict something as patently
stupid as any of the things on this list.
Posted by: Barkley Rosser at Aug 21, 2006 4:03:11 PM
"The key counterexample is animals". That depends to a large extent on your definition of 'exchange'. Does reciprocal exchange of 'personal services' count? How about 'grooming services' from a low-status chimps in exchange for food from a high-status chimp? Or sexual favors for food between males and females of some species? In addition, this is a somewhat underexplored area of ethology.
Granted that the spirit of the post points to the direction of impersonal exchange within the background of an institutional framework(rule of law, contract enforcement, trust, etc.). There are certainly fixed transaction costs that take place within this institutional background -or any other for that matter.)
"'The key counterexample is animals' Actually this is irrelevant, because economics deals with humans, not animals."
This is not irrellevant. Economics is what economists do. And economists -as well as other social scientists- are gradually blurring the strong borders we once thought existed between most scientific disciplines.
Posted by: Economister at Aug 21, 2006 4:03:42 PM
I don't think animals qualify as rational actors under economic theory.
Posted by: Matt at Aug 21, 2006 4:05:15 PM
Thanks to the invention of money, the double coincidence of wants restriction is released. Not everyone has to trade with everybody else. On the other hand, there exist websites that track the way of dollar bills across the globe via serial numbers. Given the six degrees, a virtual trade relation could be established.
However: Most actual trade is intraregional and national. Taking banking as a proxy, 98% of transactions are national.
Posted by: jaywalker at Aug 21, 2006 4:34:20 PM
Tyler makes some great points here. I'm suprised at all the attacks; are you people so enamoured of every economic idea that you can't stand to read any criticism of it? (Remember Leodard Cohen: "There is a crack in everything. That's how the light gets in.")
1. As long as animals have rational preferences and act to optimize with respect to them, economics should apply to them as well as humans.
2. A key prediction of compartive advantage is that actors will not just trade, but specialize. Recriprocal back-scratching doen't count. One animal that does all the hunting while the other does all the gathering would count.
3. If you can find a counter-example of animal specialization, that hardly destroys Tyler's point. There are still obviously a lot of potentially useful specializations that animals do not take. (There are some that humans don't take, too.) The interesting question is why, and how can we modify our theory to account for that. Transaction costs are one possibility, but it's not obvious to me that's the "right" answer.
Posted by: David Wright at Aug 21, 2006 5:36:51 PM
Noah Yetter "Does this "realization" have any actual policy ramifications?"
Stolper-Samuelson theorem predicts a link between trade and wage inequalities. That is that trade with developing countries is somewhat harmful to American labor. Many who support more trade do so because "good" of the gains from trade to developing nations is seen to out weigh the "bad" of increasing wage inequality in the US. If the gains are not there, much of the support for free trade won't be there.
Posted by: joan at Aug 21, 2006 8:19:24 PM
David Wright writes
"A key prediction of compartive advantage is that actors will not just trade, but specialize. Recriprocal back-scratching doen't count. One animal that does all the hunting while the other does all the gathering would count."
This is complete specialization ("one animal does all the hunting")which most certainly is NOT what the theory of comparative advantage requires to be validated.
Posted by: jim at Aug 21, 2006 8:55:06 PM
Yes, counter examples abound! Rocks don't trade, clouds don't trade, and syzygy's don't trade.
But didn't the predictions you were knocking down mention PERSONS? Have you somewhere in your argument widened this class without telling us?
Posted by: Clark Cooper at Aug 22, 2006 12:52:35 AM
Why am I not suprised that I lost more marginal brain cells while reading another marginal Tyler Cowen post?
1) Strawman, no one says this.
2) ??? "Probably ...?" Everything has a probability of happening. What does this say?
3) Um, not if their social/trade aversion is high enough.
Animals: How is this a counterexample if you recognize the key: that they aren't smart enough to recognize the gains from particular trades. Many *humans* have a hard time seeing the benefits of trades until it is explained.
I'm accustomed to seeing non-libertarians put up strawman versions of neoclassical theories... but a neoclassical doing it? What are these theories you're referencing? What theory says, "Right now, everyone should be trading with everyone else, OH!!!! looks like free trade isn't so hot!" ?
Posted by: Person at Aug 22, 2006 1:26:01 AM
Here, try some references. Some of these explicitly incorporate comparative advantage and trade theory, others test pieces of the puzzle. In particular, Sachs and Bull experimentally evolve specialisation between two mutualists (i.e., trading partners). (fyi, Salant is an economist) The best examples of trade/mutualism are between animals and plants. Why this is so is a bit of a mystery.
Kummel M, Salant SW (2006) The economics of mutualisms: optimal utilization of mycorrhizal mutualistic partners by plants. Ecology 87:892-902
Hoeksema JD, Schwartz MW (2003) Expanding comparative-advantage biological market models: contingency of mutualism on partners' resource requirements and acquisition trade-offs. Proceedings of the Royal Society of London Series B-Biological Sciences 270:913-919
Edwards DP, Hassall M, Sutherland WJ, Yu DW (2006) Selection for protection in ant-plant mutualism: host sanctions, host modularity, and the principal-agent game. Proceedings of the Royal Society B-Biological Sciences 273:595-602
Schwartz MW, Hoeksema JD (1998) Specialization and resource trade: Biological markets as a model of mutualisms. Ecology 79:1029-1038
Noë R, Hammerstein P (1994) Biological markets: supply and demand determine the effect of partner choice in cooperation, mutualism and mating. Behavioral Ecology and Sociobiology 35:1-11
Sachs J, Bull JJ (2005) Experimental evolution of conflict mediation between genomes. Proceedings of the National Academy of Sciences of the United States of America 102:390-395
Posted by: ant at Aug 22, 2006 7:54:23 AM
Stolper-Samuelson assumed perfect competition and constant returns to scale. Forgive me if I don't take it seriously.
Besides, it's easy to show the gains from trade without considering the gains to your trading partner. The primary beneficiary of trade is always the consumer.
Posted by: Noah Yetter at Aug 22, 2006 11:37:25 AM
Tyler: Why not? There are high fixed costs to trading at all. Most animals can't overcome those costs. They aren't smart enough.
This is a bit like saying that animals can't really engage in kin selection because they are not smart enough to compute fractions in their heads.
Animals often do things that appear "intelligent" even though they are instinctive. If some strategy is beneficial, it doesn't make any difference whether it is followed consciously or instinctively.
Posted by: Ilkka Kokkarinen at Aug 22, 2006 1:59:59 PM
Kurt: Actually this is irrelevant, because economics deals with humans, not animals.
The intelligent insectoid people of planet DXP-91 might respectfully disagree with this view.
Posted by: Ilkka Kokkarinen at Aug 22, 2006 2:02:00 PM
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