Professional Documents
Culture Documents
David Ricardo
Classical economics
Born
19 April 1772
Died
Nationality
British
Influences
Smith Bentham
Influenced
Contributions
Ricardian equivalence, labour theory of value, comparative advantage, law of diminishing returns, Economic rent[1]
David Ricardo (19 April 1772 11 September 1823) was an English political economist, often credited with systematising economics, and was one of the most influential of the classical economists, along with Thomas Malthus, Adam Smith, and John Stuart Mill.[2] He was also a member of Parliament, businessman, financier and speculator, who amassed a considerable personal fortune. Perhaps his most important contribution was the law of comparative advantage, a fundamental argument in favour of free trade among countries and of specialisation among individuals. Ricardo argued that there is mutual benefit from trade (or exchange) even if one party (e.g. resource-rich country, highly skilled artisan) is productive in every possible area than its trading counterpart (e.g. resource-poor country, unskilled laborer), as long as each concentrates on the activities where it has a relative productivity advantage.[3]
Personal life
Born in England, Ricardo was the third of 17 children of a Sephardic Jewish family of Portuguese origin who had recently relocated from the Dutch Republic. His father was a successful stockbroker. At age 21, Ricardo eloped with a Quaker, Priscilla Anne Wilkinson, leading to estrangement from his family. His father disowned him and his mother apparently never spoke to him again. Without family support, he started his own business as a stockbroker, in which he became quite successful thanks to the connections he made when working with his father. During the Battle of Waterloo, just like Nathan Mayer Rothschild, he bet against the French victory and invested in British securities. By the time he retired from the Exchange at the age of 43, his fortune was estimated at about 600,000. He then purchased and moved to Gatcombe Park, an estate in Gloucestershire. At the time of his marriage, Ricardo disconnected from Judaism and became a Unitarian.[4] He had eight children, including three sons, of whom Osman Ricardo (17951881; MP for Worcester 18471865) and another David Ricardo (18031864, MP for Stroud 18321833), became members of parliament, while the third, Mortimer Ricardo, served as an officer in the Life Guards and was a deputy lieutenant for Oxfordshire. He was one of the original members of The Geological Society.[4] His daughter was Sarah Ricardo-Porter, who married George R. Porter and was an author in her own right (e.g. "Conversations in Arithmetic'"). Ricardo became interested in economics after reading Adam Smith's The Wealth of Nations in 1799 on a vacation to the English resort of Bath. This was Ricardo's first contact with economics. He wrote his first economics article at age 37 and within another ten years he reached the height of his fame. In 1819, Ricardo took a seat in the House of Commons, representing Portarlington, an Irish rotten borough. He held the seat, which had initially been made available to him by his friend Richard "Conversation" Sharp, until his death in 1823. In 1846, his nephew John Lewis Ricardo, MP for Stoke-on-Trent, advocated free trade and the repeal of the Corn Laws.
Ricardo was a close friend of James Mill, who encouraged him in his political ambitions and writings about economics. Other notable friends included Jeremy Bentham and Thomas Malthus, with whom Ricardo had a considerable debate (in correspondence) over such things as the role of landowners in a society. He also was a member of London's intellectuals, later becoming a member of Malthus' Political Economy Club, and a member of the King of Clubs.
Ideas
Value theory
Ricardo's most famous work is his Principles of Political Economy and Taxation (1817). Ricardo opens the first chapter with a statement of the labour theory of value. Later in this chapter, he demonstrates that prices do not correspond to this value. He retained the theory, however, as an approximation. The labour theory of value states that the relative price of two goods is determined by the ratio of the quantities of labour required in their production. His labour theory of value, however, required several assumptions: 1- both sectors have the same wage rate and the same profit rate; 2- the capital employed in production is made up of wages only; 3- the period of production has the same length for both goods. Ricardo himself realised that the second and third assumptions were quite unrealistic and hence admitted two exceptions to his labour theory of value: 1- production periods may differ; 2- the two production processes may employ instruments and equipment as capital and not just wages, and in very different proportions. Ricardo continued to work on his value theory to the end of his life. But the first chapter is but the introduction to a long book that discusses back and forth an extended series of comparisons and contrasts of the various points of views and of Ricardo's own reasoning. In the chapter "On Value and Riches,"[5] Ricardo makes effort to illustrate that exchange value is not the same as "value in use".[6] In this way one can factor two often contradictory results. Point 2, above, that the capital employed in production must be made up of wages only for his value theory to hold, is answered by this: that production may be made up of capital and machinery, but it doesn't change the principle (which he attributes to Adam Smith) that he tries to lay out in this chapter.[7] Machinery may add to one measure of value beyond almost all measure without adding one penny to the other measure of value. In this way, one is able, Ricardo seems to show, to factor out somewhat contradictory assumptions which if confounded lead to equally contradictory results. By making all things perfectly clear, or in attempting to, Mr. Ricardo, seeks to resolve some of those ills of the democratic society in which he lived in so far as reason, and action, could resolve them. In this pursuit, he took action, sitting in parliament, moving with his stirring, and amusing, speeches the inner policies of the British Empire. The key point that Ricardo seems to make, though, is something like this: Accumulation of capital adds riches without decreasing the value of things to be traded, which may bring the various economic actors to a win-win. Ricardo first attempts to show that new riches are not adding as much value as one would think because they are always decreasing somewhat from the exchangeable value of what was produced. The decreasing value in exchange as value-in-use increases he extrapolates to infer that the sum world total of value in exchange is a fixed constant. Therefore, in the growth of the
global economy, the first-world countries, he states, will begin to lose value per trade, even to the purely theoretical extent of taking from the capital base. Yet, Ricardo notes that with more value-in-use for the rich and the poor, both will likely obtain more security as the aggression of competition is mitigated by physical economic growth. Adam Smith had thought that due to its effect on value, the growth of wealth of the poor beyond subsistence levels is likely to take from the overall wealth of the society. All economists (neoliberal through progressive) still worry about that and so they weaken the wealth of the poor to maintain economic growth. Ricardo shows this as unnecessary when we measure value in exchange together with the growth of value-in-riches, rather than by the monopolization value. The extreme aspects of competition then leave, for the rich and poor alike, an appearance of the growth of wealth, yet without the actual result of it. Taking a step back and noticing the growth of actual value-in-use may allow people as corporations and laborers, both rich and poor, to realize this and see a way and means forward.
Rent
Ricardo is responsible for developing theories of rent, wages, and profits. He defined rent as "the difference between the produce obtained by the employment of two equal quantities of capital and labor." The model for this theory basically said that while only one grade of land is being used for cultivation, rent will not exist, but when multiple grades of land are being utilized, rent will be charged on the higher grades and will increase with the ascension of the grade. As such, Ricardo believed that the process of economic development, which increased land utilization and eventually led to the cultivation of poorer land, benefited first and foremost the landowners because they would receive the rent payments either in money or in product. In a careful analysis of the effects of different forms of taxation, Ricardo concludes in chapters 10 and 12 that a tax on land value, equivalent to a tax on the land rent, was the only form of taxation that would not lead to price increases; it is paid by the landlord, who is not able to pass it on to a tenant. He stated that the poorest grade land in use has no (land) rent and so pays no land value tax; as prices are determined at this marginal site for the whole economy, prices will not be increased by a land value tax. His analysis distinguishes between rent of (unimproved) land and rent associated with capital improvements such as buildings.
Accumulation of Inequality of Distribution of varied quantities of Accumulatable Scarce Necessary Means of Production.
Ricardo's concept of rent is laid out in his book Principles of Political Economy and Taxation. Due to variation in scarcity of land (or some other accumulatable scarce necessities of varied utility), some land pays a higher monopoly value due to its scarcity than other land. This return on investment is higher than what one would otherwise expect based simply on the value and scarcity of the produce; this return on investment comes from the incident of ownership that allows a monopoly price to be paid. Such premium over real social value that an individual is able to reap due to incident of ownership constitutes real value to an individual but is at best [8] a paper monetary return to society. The portion of such purely individual benefit, and exclusively that portion, that accrues to scarce, accumulatable resources such as land or gold or houses, over and above any socially beneficial exchange, Ricardo labels Rent.
If all land were equally situated, however scarce, one could determine that all market exchange of the produce thereof was free and equal and that the exact value of the trade was conveyed simultaneously to both parties and to society. In the case of increasing scarcity of the land of higher absolute utility, the free market principle fails to either properly measure or convey value. This gap between personal value accrual and social value accrual, in the case of land, is Ricardian Rent. Rent therefore constitutes value for nothing and as such constitutes a loss to society above maximum production, and one that increases at a faster rate than the decline in production that comes from the scarcity of the land, as land becomes more scarce. Proposals to solve this by various types of land tax are explored further. The key problem then, Ricardo discusses, would be to find a tax that is able to maximally differentiate between tax on profit and tax on such purely Ricardian rent. No easy task, he points out, as in the case of how one differentiates between basic land return, that portion that constitutes such excess above social productivity that he labels rent, and the portion that comes from non-rent producing capital investment in fertilizer, irrigation, deep plowing and land improvements of all types, barns, etc.
In demonstrating that Ricardian Rent constitutes value for nothing (Ricardo was momentarily neglecting Say's Law that all savings by-definition-equals investment), Ricardo overlooks that such value-for-nothing doesn't necessarily disappear upon "mis-payment" to a landlord. This is what Malthus, Ricardo's personal friend and intellectual opponent, states in his own book on Rent, one of his works that expounds from a point of view of Malthus's Surplus Value theories, rather than Malthus's earlier and more quoted Scarcity Value Theory. Thus, says Malthus, Rent, however misplaced, constitutes a prime source of savings and investment for the future. We need then, if contented by Malthus, only look for such portion of Ricardian Rent that due to its over-investment (due to its miscalculation) represents lost economic value to the society as a whole. Malthus' Criticism of Ricardian Rent does not in Malthus' book on Rent touch on this problem of Ricardian over-investment as expounded by Malthus (the General Glut controversy); rather, in his later works, Malthus does so. So: to Ricardo, Economic Rent is a surplus of individual investors' paper profit (which has its value in control over resources rather than directly in the resources themselves) over societal gain. As such, it does not represent any gain but rather an unearned transfer of wealth. To Malthus, there is material gain created in the re-investment which is rent, but at some point such gain may as says Ricardo in regards to the paper profit he believes Economic Rent to be, be in excess of social utility. Earlier writers touched on Economic Rent too. Ricardo advises caution in responses to the problem of Economic Rent To be clear, the topic of Economic Rent, as expounded by Ricardo, was by earlier writers such as Smith. Ricardo's book forms a sort of textbook of such earlier expounded theories, in which he adds his own analysis while comparing and contrasting different views and pointing out the flaws in them. Ricardo, after spending many chapters contented with this view of Rent, ascribes it to Smith and then says it is true but probably not so important in an expanding economy and measures to address it should be marked with caution as they would likely produce different effects in different situations. [9]
Comparative Advantage
The Problem of Competitive Advantage
Ricardo extrapolates the problem of monopolistic rent on the land itself to other situations/resources that are fundamentally scarce: the buildings that sit on the land, due to the long time frame of use and large lump-sum cost of building new ones; or gold, which is a also partial monopoly due to its scarcity, and which is not consumable. He then questions whether all trade has a fundamental problem of inequality that is inevitably hard to bridge. This is the problem of absolute competitive advantagewhere one party has an unbridgeable competitive advantage due to wealth or productive advantages in every field. If so, can trade profitably continue? Ricardo solves this with Comparative Advantage.
This book, Principles of Political Economy, introduces the theory of comparative advantage. According to Ricardo's theory, even if a country could produce everything more efficiently than another country, it would reap gains from specializing in what it was best at producing and trading with other nations. (Case & Fair, 1999: 812818). Ricardo believed that wages should be left to free competition, so there should be no restrictions on the importation of agricultural products from abroad. The benefits of comparative advantage are both distributional and related to improved real income. Within Ricardo's theory, distributional effects implied that foreign trade could not directly affect profits, because profits change only in response to the level of wages. The effects on income are always beneficial because foreign trade does not affect value. Comparative advantage forms the basis of modern trade theory, reformulated as the Heckscher-Ohlin theorem, which states that a country has a comparative advantage in the production of a product if the country is relatively well-endowed with inputs that are used intensively in producing the product. (Case & Fair 1999, p. 822). See the section The Ricardian theory of international trade of this page for another side of the theoretical development. The theory of comparative advantage as he described it seems to be that both those rich in ability and the poor alike concentrate each their own analytical powers on meeting the needs and abilities of the richer, more skilful party to an otherwise unequal exchange and thereby both benefit. Ideas often extrapolated are: that both benefit equally; and that
somehow in such exchange each nation, or person, is enabled to focus on its own area of real specialisation in a bidirectional equal tradebut we only start with an idea of purely comparative specialisation in one direction. For the contemporary development of Ricardo's idea on international trade, see the section The Ricardian theory of international trade in the part His Legacy and Influence.
Ricardian equivalence
Another idea associated with Ricardo is Ricardian equivalence, an argument suggesting that in some circumstances a government's choice of how to pay for its spending (i.e., whether to use tax revenue or issue debt and run a deficit) might have no effect on the economy. Ironically, while the proposition bears his name, he does not seem to have believed it. Economist Robert Barro is responsible for its modern prominence.
Ricardian Socialists
Unequal Exchange
Chris Edward includes Emmanuel's Unequal Exchange theory among variations of neo-Ricardian trade theory.[14] Arghiri Emmanuel argued that the Third World is poor because of the international exploitation of labour. [15] The unequal exchange theory of trade has been influential to the (new) dependency theory.[16]
Neo-Ricardians
After the rise of the 'neoclassical' school, Ricardo's influence declined temporarily. It was Piero Sraffa, the editor of the Collected Works of David Ricardo[17] and the author of seminal Production of Commodities by Means of Commodities,[18]who resurrected Ricardo as the originator of another strand of economics thought, which was effaced with the arrival of the neoclassical school. The new interpretation of Ricardo and Sraffa's criticism against the marginal theory of value gave rise to a new school, now named neo-Ricardian or Sraffian school. Major contributors to this school includes Luigi Pasinetti (1930 ), Pierangelo Garegnani (1930), Ian Steedman (1941), Georffrey Harcourt (1931), Heinz Kurz (1946), Neri Salvadori (1951), Pier Paolo Saviotti (-) among others. See also Neo-Ricardianism. Neo-Ricardian school is sometimes seen to be a composing element of Post-Keynesian economics.
time counts as much as price to enjoy the purchased commodities. Another constraints, such as house surface, are effective for example in the Japanese economy, where people live in a "rabbit hutch." Demand saturation problems are pursured, parallel to evolutionary economists, by Aoki and Yoshikawa [30][31] and other Japanese reserchers.[32][33]
Contemporary theories
Ricardo's idea was even expanded to the case of continuum of goods by Dornbusch, Fischer, and Samuelson [37] This formulation is employed for example by Matsuyama[38] and others.
producible in their own country. For example, many Northern countries do not produce tropical fruits. In these cases, one cannot define which country has comparative advantage. [53] Ricardo's theory of comparative advantage is also flawed in that it assumes production is continuous and absolute. In the real world, events outside the realm of human control (e.g. natural disasters) can disrupt production. In this case, specialisation could cripple a country that depends on imports from foreign, naturally disrupted countries. For example, if an industrially based country trades its manufactured goods to an agrarian country in exchange for agricultural products, a natural disaster in the agricultural country (e.g. drought) may cause an industrially based country to starve.