Criticism or Limitations of the Comparative Cost Doctrine
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Criticism or Limitations of the Comparative Cost Doctrine

Criticism or Limitations of the Comparative Cost Doctrine The comparative cost theory, as left by Ricardo, remained essentially unassailed until after First World War, and, even during the past sixty years, developments in this field have been more supplemental in nature than destructive. The classical structure modified a bit and elaborated considerably still stands.

Criticism or Limitations of the Comparative Cost Doctrine

The comparative cost theory, as left by Ricardo, remained essentially unassailed until after First World War, and, even during the past sixty years, developments in this field have been more supplemental in nature than destructive. The classical structure modified a bit and elaborated considerably still stands. As Professor Samuelson remarks, "if theories like girls could win beauty contests, comparative advantage would certainly rate high in that it is an elegantly logical structure."

This is not to say that the theory is without some defects. This theory appears to be highly simplified when we try to apply it to the complex real life problems; we are then tempted to conclude that the theory has no touch with the wet clay of life. In fact, most trenchant criticisms have been directed from time to time against the comparative cost theory of international trade.

1. Static Nature of the Theory. It is held that the doctrine of comparative cost is based upon essentially static assumptions. It assumes away all stickiness of prices and wages, and all transitional inflationary and deflationary problems. It assumes that when workers go out of one industry they do not fall into chronic unemployment, but move into some other more efficient industry. But facts speak otherwise.

Another implicit static assumption is that the amounts of factors of production are fixed. But, in a dynamic world, there are changes in factor supplies, changes in the structure of the industry, and variations in the development of natural of sources; and all these changes and variations have considerable influence upon international movement of goods and services. Professor Ellsworth, therefore, concludes, "either a new type of analysis, more suited to its field, must be evolved to supplement the older approach, or a very considerable amount of supplementary investigation must be undertaken."

2. Neglect of Demand Conditions. The analysis of comparative cost theory is incomplete, since it concentrates on supply to the complete neglect of demand. The classical economists assumed constant costs, and this assumption permitted them to ignore demand, and to explain international price-cost difference in term of supply conditions alone. To quote Professor Ohlin, "the comparative cost reasoning alone explains very little about international trade. It is indeed nothing more than an abbreviated account of conditions of supply."

3. Applicability Restricted to Only Two Commodities. The doctrine of comparative costs is valid, if at all it is so, only in the case of two countries and two commodities. But it is of little use when more than two countries are involved. Most situations of real world are of a complex sort, and to these the conclusions of two-variable reasoning can hardly be applied.

4. Assumption of Labor Theory of Value. Ricardo propounded his theory of comparative costs in terms of labor theory of value. The classical economists supposed that the commodities are exchanged on the basis of their labor cost of production. Thus, in his theory, the elements of other factors do not figure at all. In modern times, labor has ceased to be the entire element in cost. Goods are produced not by labour alone but by various combinations of different factors of production.

5. Assumption of immobility of factors of production between countries is not valid. The classical assumption that internally the factors of production are mobile but internationally perfectly immobile does not accord with facts. In fact, the effect of labor migration and capital movements has a very important bearing on international movement of goods.

6. Assumption of Perfect Competition Unrealistic. The comparative cost theory assumes perfect competition in both labor and commodity markets. But our real world, constituted as it is, bristles not with perfect competition but with monopolistic or oligopolistic industrial organization.

7. The Rate of Exchange Remains Undetermined. The theory of comparative cost fixes the limits within which the exchange ratio must settle under international trade, but it never shows how the exact point within these limits is determined.

8. The classical assumption that there is always specialization under comparative cost is untenable. Prof. Graham has shown that where the two trading countries are of unequal size, the smaller country may eventually specialize in a particular commodity but the larger country will have to produce both, since the supply coming from the smaller country is insufficient to meet the requirements of the larger country.

9. The comparative cost theory also ignores transport costs. When transport costs are introduced, it no longer follows that the price ratios between export and import goods are the same in the exporting and importing countries. Export goods must be lower in price to overcome transport costs; import goods higher. If transport costs are wider than price differentials in the absence of trade, trade cannot take place. That is why many goods and services do not enter into international trade.

 

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