THE FOUNDATIONS OF FREE TRADE THEORY AND THEIR IMPLICATIONS FOR THE CURRENT WORLD RECESSION*
Traditional theory, both classical and neo-classical, asserts that free trade in goods between different regions is always to the advantage of each trading country, and is therefore the best arrangement from the point of view of the welfare of the trading world as a whole, as well as of each part of the world taken separately.1 The purpose of this paper is to show that these propositions are only true under specific abstract assumptions which do not correspond to reality. I want to show that conditions can exist (and indeed are likely to exist) in which unrestricted trade may lead to a loss of welfare to particular regions or countries and even to the world as a whole--the world will be worse off under free trade than it could be under some system of regulated trade.
Traditional theory emanated from Ricardo's doctrine of comparative costs which says that even if one country is more efficient in everything--has a higher productivity all round--it pays for it to specialise in those things in which its comparative efficiency is greatest and to rely on the rest for supplies from the less efficient countries. His famous example was the exchange of cloth for wine between England and Portugal; he supposed that Portugal had a higher output per man both in the production of wine and cloth than England but its productivity advantage was greater in wine production than in cloth-making; hence Portugal would be better off if it specialised in producing wine and obtained cloth by way of trade with England.____________________