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• Preface
• Studies In the Theory of International Trade
• Chapter I: English Theories of Foreign Trade, Before Adam Smith: I
• I. Introduction
• II. “ Mercantilism” and “bullionism”
• III. the Balance-of-trade Doctrine
• IV. Reasons For Wanting More Bullion
• V. Employment and the Balance of Trade
• Chapter II: English Theories of Foreign Trade, Before Adam Smith: Ii
• I. Legislative Proposals of Mercantilists
• II. the Collapse of Mercantilist Doctrine
• III. Some Modern Interpretations of English Mercantilism
• Chapter III: The Bullionist Controversies: I. The Inflation Phase
• I. the Participants In the Controversy
• II. the Factual Background
• III. Premium On Bullion As Evidence of Excess Issue: the Bullionist Position
• IV. Qualifications Conceded By the Bullionists
• V. Possible Objections to the Bullionist Position
• VI. the Anti-bullionist Position
• VII. the Balance of Payments Argument
• VIII. the Possibility of Excess Issue By Banks
• IX. Responsibility For the Excess Issue: Bank of England Vs. Country Banks
• X. Responsibility For Excess Issue: the Credit Policy of the Bank of England
• Chapter IV: The Bullionist Controversies: II. The Deflation Phase
• I. the Resumption of Cash Payments
• II. Responsibility of Resumption For the Fall In Prices
• III. the Economic Effect of Changing Price Levels
• IV. Ricardo's Position On the Gold Standard
• V. Reform Without Departure From the Metallic Standard
• VI. Paper Standard Currencies
• Chapter V: English Currency Controversies, 1825–1865
• I. Introduction
• II. the “currency School” -“banking School” Controversy
• III. the “palmer Rule ”
• IV. the Bank Act of 1844
• V. the Possibility of Overissue of Convertible Bank Notes
• VI. the Role of Deposits, Bills of Exchange, and “credit” In the Currency System
• VII. the Technique of Credit Control
• VIII. the Relation Between Bank of England Operations and Specie Movements
• IX. Currency Reform Proposals
• Chapter VI: The International Mechanism Under a Simple Specie Currency
• I. Introductory
• II. the Mechanism According to Hume
• III. an Omitted Factor? Relative Changes In Demand As an Equilibrating Force
• IV. Prices In the Mechanism: the Concept of “price Levels ”
• V. the “terms-of-trade” Concept
• VI. the Prices of “domestic” Commodities
• VII. the Mechanism of Transfer of Unilateral Payments In Some Recent Literature
• VIII. a Graphical Examination of Pigou's Analysis 1
• IX. Some Elaborations On the Basis of Pigou's Analysis
• X. an Alternative Solution
• XI. Types of Disturbance In International Equilibrium
• XII. Specie Movements and Velocity of Money
• XIII. Commodity Flows and Relative Price Levels
• XIV. Exchange Rates
• XV. A Criticism of the Purchasing-power Parity Theory 1
• Chapter VII: The International Mechanism In Relation to Modern Banking Processes
• I. Automatic Vs. Managed Currencies
• II. Primary and Secondary Expansion of Means of Payments
• III. Short-term Loans In the International Mechanism
• IV. Primary and Secondary Expansion In Canada , 1900–13
• V. the International Mechanism and Business Cycles
• Chapter VIII: Gains From Trade: the Doctrine of Comparative Costs
• I. the Nature and Origin of the Doctrine
• II. the Division of the Gain From Trade
• III. Trade In More Than Two Commodities
• IV. Trade Between More Than Two Countries
• V. Transportation Costs
• VI. Increasing and Decreasing Costs
• VII. Prices, Money Costs, and Real Costs
• VIII. Dependence of Comparative Cost Doctrine On a Real-cost Theory of Value
• IX. Differences In Wage Rates In Different Occupations
• X. Variable Proportions of the Factors and International Specialization
• XI. Variable Proportions of the Factor and Comparative Real Costs
• XII. “ Opportunity Cost” Analysis As a Substitute For Real Cost Analysis
• Chapter IX: Gains From Trade: the Maximization of Real Income
• I. “ Mass of Commodities” and “sum of Enjoyments”: Ricardo and Malthus
• II. Reciprocal Demand and the Terms of Trade
• III. Terms of Trade and the Amount of Gain From Trade
• IV. “ Net Benefit” In International Trade: Marshall
• V. Total Net Utility Derived From International Trade: Edgeworth
• VI. the Gain From Trade Measured In Money
• Appendix: a Note On the Scope and Method of the Theory of International Trade

VIII. Dependence of Comparative Cost Doctrine on A Real-Cost Theory of Value

The Ricardian exposition of the doctrine of comparative costs stated costs in terms of units of labor-time and assumed that the values of commodities produced within a country would be proportional to their labor-time costs. The same procedure was followed by many of the leading exponents of the doctrine of comparative costs, and this chapter has so far not questioned its validity. But the labor-cost theory of value could find few, if any, serious defenders today, and many writers have claimed either that the doctrine of comparative costs must be rejected because of its dependence on a labor-cost theory of value, or else that it must be restated in terms of “modern” value theory without reference to labor costs. The remainder of this chapter deals with various phases of this question.

There are serious difficulties here for the doctrine of comparative costs, but they arise from the necessary dependence of its normative aspects on some form of “real-cost” theory of value and not from its relationship with the “labor-cost” theory of value, which can easily be severed. The association of the comparative-cost doctrine with the labor-cost theory of value is a historical accident, a result merely of the fact that Ricardo, in his pioneer exposition of it, expressed real costs in terms of quantities of labor. Except for Ricardo, none of the classical expounders of the doctrine of comparative costs, with the relatively unimportant and partial exception of James Mill, was an exponent of a labor-cost theory of value. Ricardo, himself, made important qualifications from the start for the influence of capital costs on relative values, and attached increasing importance to them as time went on. Malthus and Torrens expressly rejected the labor-cost theory. Senior and Cairnes dealt with real costs in terms of “labor and abstinence” 1 or “labor and capital.” J. S. Mill in his earliest writings dissociated himself from the strict labor-cost theory, and in his Principles expressly rejected it in his discussion of general value theory, although he expounded the doctrine of comparative costs, as did Cairnes, as a rule, in the terminology of the labor-cost theory. Later writers, such as Bastable and Edgeworth, substituted “units of productive power,” or similar expressions, for quantities of labor in expounding the doctrine,2 or else, like Marshall,3 made “quantities of labor” stand for combinations of the factors. Taussig, almost alone among modern writers, has adhered, with qualifications, to a labor-cost theory of value, but with full recognition of the objections which have been made against it, and on the ground not that these objections are theoretically invalid but that their practical importance can reasonably be questioned. Economists who in general would deny that prices were necessarily proportional to labor costs may have fallen back on the labor-cost formula when expounding the theory of international trade because of the aid this formula provides in avoiding—or evading—serious logical difficulties in appraising from a welfare point of view the consequences of trade. While, therefore, evidence seems completely lacking which will support Knight's dictum that “historically the whole doctrine of comparative cost was a prop for a laborcost theory of value,” 4 the converse proposition is arguable that historically the labor-cost theory of value has been used, even by writers who did not believe in it, as a prop for the doctrine of comparative costs. But now that there is almost universal and vigorous rejection of the labor-cost theory, its historical association with that theory is proving for the comparative-cost doctrine a hindrance rather than an aid to its general acceptance. Although for some of its critics this would make little difference, it is therefore important to emphasize that the doctrine of comparative costs has for most of its exponents derived its cogency from their acceptance of a real-cost theory of value which was not simply a labor-cost theory of value, even when expressed in its terms.

Before proceeding to an examination of the possibility of upholding the validity of the doctrine of comparative costs on the basis of real-cost theorizing, I should make it clear what meaning I attach to the phrase “real-cost theory of value.” I understand by a “real-cost theory of value” a theory which holds that there is at least a strong presumption of rough proportionality between market prices and real costs, and that therefore propositions which depend for their validity on the existence of such rough proportionality are not for that reason to be regarded as invalid unless and until evidence is produced tending to show that in the particular situation under examination no such approach to proportionality between prices and real costs exists. Real-cost theorizing, therefore, even if valid, yields presumptions, but only presumptions, as distinguished from certainties. But presumptions are all that economic theory can be expected to yield in this field. But even if no presumptions as to proportionality of prices to “real costs” can be established, general value theory must, of course, take account of “real costs” in so far as they exist and influence relative prices in any manner. Demolition of the “real-cost theory of value,” therefore, does not have as an appropriate sequel abandonment of “real-cost” analysis.

The question next arises as to what is to be understood by “real costs.” As applied to Ricardo's labor-cost theory, it would appear to mean cost in terms of day's labor, or the labor technical coefficients of production, where “real” would serve merely to distinguish quantities of the services of the factors necessary for production from money expenses of production, in the same manner in which “real” is applied to income to distinguish the commodities which money income can buy from the money income itself. It is clear, however, that the classical writers, when dealing with questions of public policy, were concerned with subjective costs, or “disutilities,” and that although they generally assumed that disutilities were proportional to quantities of the services of the factors, they meant by real costs all subjective costs directly associated with production. The irksomeness of labor, whether in comparison with leisure or with some other kind of labor, and the “abstinence” associated with voluntary postponement of consumption, were for them the important real costs. They recognized, of course, that the economic process involved choice between products as well as choice between activities, but they treated choice between products as an income phenomenon and not as a cost phenomenon. When dealing with costs, they assumed income to remain constant, and examined the means by which it could be procured at the minimum cost. When dealing with income, they assumed cost to remain constant, and examined the means by which income could be maximized. That this was the only possible, or even the best, procedure, whether with respect to terminology or to mode of analysis, there would be no point in insisting upon, since there is always a choice of terms and of methods of analysis, and which is chosen is often determined mainly by some intellectual fashion of the moment. While there were imperfections in their doctrine, the only one I see which can conceivably be attributable to their technique was the one pointed out by Barone and Pareto,5 their unsatisfactory method of handling land services (or, in general, services supposed not to involve real costs) as a factor in production.6

The course of international trade is governed immediately by prices. Unless the prices of commodities within a country are at least roughly proportional to their real costs, the doctrine of comparative costs is insufficient to establish a presumption in favor of free trade and, in fact, may provide a presumption in favor of interference with trade in order to bring it into conformity with comparative real costs.7 The following sections examine the bearing on the doctrine of comparative costs of certain factors which are commonly held to operate against the existence of any significant correspondence between money costs and real costs, namely, differences in wage rates in different employments, and the use of the factors of production in different proportions in different industries.

[1]Cf. Senior, Three lectures on the cost of obtaining money, 1830, p. 4:“... an equal expenditure of wages and profits, or, in my nomenclature; ... an equal sum of labor and abstinence....”

[2]Cf. Edgeworth, review of Bastable's Theory of international trade in Economic journal, VII (1897), 399, note.

[3]Cf. Marshall, Money credit & commerce, 1923, p. 323: “Differences in the skill required for different occupations, and in the amount of capital by which each man's labor needs to be assisted, are neglected (or else the values of the several classes of labor and stocks of capital are expressed in terms of the value of labor of a standard efficiency).”

[4]“Some fallacies in the interpretation of social cost,” Quarterly journal of economics, XXXVIII (1924), 599, note.

[5]See infra, p. 509.

[6]Assume that as the result of an export bounty to an industry using much land but little labor, the same imports are obtained in return for commodities containing less labor services but more land services than those previously exported. I suppose that Ricardo would say in this case that the export bounty resulted in the country getting the imports at less real cost, and was therefore beneficial, and would overlook any reduction in domestically produced income resulting from the withdrawal of land from production for domestic consumption to production for export. It is conceivable, however, that Ricardo, if the point had been raised, would have made the necessary correction in his income analysis.

[7]Ricardo expressly recognized, with special reference to taxation, that in so far as relative prices were influenced by factors not representing real cost, the case for free trade no longer held. Cf. On protection to agriculture [1822], Works, p. 463: It is only when commodities are altered in relative value, by the interference of government, that any tax, which shall act as a protection against the importation of a foreign commodity, can be justifiable. ... It may be laid down as a principle, that any cause which operates in a country to affect equally all commodities, does not alter their relative value, and can give no advantage to foreign competitors, but that any cause which operates partially on one does alter its value to others, if not countervailed by an adequate duty; it will give advantage to the foreign competitor, and tend to deprive us of a beneficial branch of trade.