David Ricardo—The Comparative Advantage | Economic Game Changers | PragerU

The late 18th century was a time of upheaval throughout the West. Revolution rocked America, then France. The mercantile system which had dominated Europe for over a century was giving way to new economic ideas. The most prominent of these was Adam Smith's groundbreaking work, The Wealth of Nations. He believed that millions of people making decisions in their own self-interest was a far better way for an economy to function than having the government control it. Smith's ideas, which became known as free market capitalism, arrived at the perfect time. The Industrial Revolution was starting up, and Britain was fast becoming a manufacturing powerhouse, an economy much too big for anyone to manage. More and more people were leaving the country to work in cities like Manchester, Birmingham, and London. Factories whirred and clanked while chimneys filled the skies with smoke. Workers turned out goods faster and more cheaply than ever before. But all this productivity had its downsides. Inflation was high, cities were crowded and polluted, and food was expensive. The price of wheat is what? How is that possible? Enter English-born David Ricardo, a wealthy stockbroker who made his fortune early in life. Having read The Wealth of Nations, he turned his attention to economic ideas and began to speak about them. It is the corn laws, madam. The corn laws. Britain's corn laws were aggressive tariffs that greatly restricted the import of foreign grain. It was a deliberate attempt by the government to manage the economy and protect the large land holdings and profits of the British aristocracy. These laws restricted supply, leading to high prices. And if the harvests were bad, as they often were, prices went even higher. Then came the food riots. Ricardo observed these matters and finally published his ideas in a book in 1817. The Principles of Political Economy and Taxation. In it, he argued that the corn laws were the reason why the price of food was so high. He also observed the simple fact farmland across Great Britain was not equal. Some land is fertile, others not so much. As the population grows and spreads out, it encourages the cultivation of less fertile land to meet demand. In a time of scarcity, the value of fertile land increased even more. Benefiting landowners without any additional work on their part. That extra value is what Ricardo called rent. Not to be confused with the rent you pay for an apartment. So what's the problem? The problem, sir, is that you benefit from all these high prices at everyone else's expense. Hence these riots. Ricardo proposed a free market solution that was controversial at the time. Open up the market. Let people buy grain from other places. No, no, no. Yes, yes, yes. Ricardo further championed free trade with his most famous and enduring idea. Comparative advantage. Which is when countries specialize according to what they do best. He recognized that when a country produces a good, it limits its ability to make something else due to its limited resources. Limited resources? We can make more of everything than everybody else. Sir, I call this idea absolute advantage. Now, just because we can make everything doesn't mean we should. In fact, I say we specialize in what we make most efficiently and trade for the rest. I call this idea comparative advantage. Specialize? Trade for the rest? How? Take this cloth. We're the most productive in making it compared to other countries. We could trade it with Poland or America who specializes in grain, thus lowering costs for both nations. Ricardo argued that when countries trade according to comparative advantage, it optimizes production. This leads to higher output and lower prices for everyone. Finally, Ricardo tackled the long-running question about the just price or value of a good. He was well familiar, of course, with what Adam Smith thought. The value or price of a good is determined by how much someone has to work in order to pay for it. No, no, it's the labor required to produce something that determines its relative value. Both knew that some products, say a fancy pocket watch, took more time and resources to produce than, say, a chair. But Ricardo thought that what made something valuable was the work that went into it. In other words, labor. He called this... Labor Theory of Value. The distinction of labor as a specific class of society was an important idea during the Industrial Revolution, when it would be radicalized for... Revolution! Yeah, that. Ricardo's broader approach, which built on Smith's ideas, helped to formalize the study of economics. Both became part of what is now called the Classical School of Economics. And thanks to their free market ideas, both the Navigation Acts and the Corn Laws were eventually repealed in the mid-19th century. This opened up a golden era of trade and economic growth for Great Britain. Before those days would come, however, more revolutions would break out. And one relatively unknown philosopher would stoke a fire that still burns today. Seize the means of production! Thanks for watching this episode of Economic Game Changers. Become an expert on economics and financial literacy in no time, with more episodes like this at PragerUKids.com. Parents, subscribe today!