Before you read on: when did David Ricardo say two countries can both gain from trade?
In Ricardo's example, Portugal could make both wine and cloth with less labour than England, yet both countries gained by specialising. The idea is now called comparative advantage.
- Lived
- Born April 1772 in London; died 11 September 1823, aged 51
- Nationality
- English
- Work
- Stockbroker and loan broker who built a large fortune; Member of Parliament for Portarlington from 1819 to 1823
- Key works
- The High Price of Bullion (1810); Essay on the Influence of a Low Price of Corn on the Profits of Stock (1815); On the Principles of Political Economy and Taxation (1817)
- School
- Classical economics, which reached maturity in his work and that of John Stuart Mill
What Ricardo was reacting to
Ricardo became interested in economics in 1799, after reading Adam Smith's The Wealth of Nations. The Bank of England's notes could no longer be exchanged for gold, and prices were rising. The protectionist Corn Laws restricted imports of grain.
Ricardo set out to explain how a nation's output is shared between landlords, workers and the owners of capital, and how trade and taxes change those shares.
Ricardo's key ideas
Can you name Ricardo's four key ideas?
A country gains by making the goods it produces at the lowest opportunity cost, meaning the least of other goods given up, and trading for the rest. This holds even if another country is better at everything.
Can you think of an example?
In Ricardo's example, Portugal needed 80 men's work for a year to make its wine and 90 for its cloth; England needed 120 and 100. Portugal still gained by making wine and buying English cloth.
Adding more workers and machinery to a fixed area of land adds less and less extra output. Ricardo defined rent as the payment to a landlord for the natural powers of the soil. As population grows and farming spreads to poorer land, owners of better land collect more rent.
Can you think of an example?
Two farms of the same size grow wheat, one on rich soil and one on thin soil. Once grain prices make the thin farm worth working, the rich farm's extra crop goes to its landlord as rent.
Ricardo held that, under competition, prices tend to follow the labour needed to produce goods. He accepted that supply and demand move prices in the short run.
Can you think of an example?
On this theory, if a coat takes twice as much labour to make as a hat, over time it tends to sell for about twice as much.
Output is shared as wages to workers, profits to owners of capital and rent to landlords. Ricardo held that profits move opposite to wages, so the interests of workers and owners of capital could clash.
Can you think of an example?
If wages rise, Ricardo held, manufacturers' profits fall, since the same output now pays more to workers.