Ricardo’s Theory of Comparative Advantage: Old Idea, New Evidence

The anecdote is famous. A mathematician, Stan Ulam, once challenged Paul Samuelson to name one proposition in the social sciences that is both true and non-trivial. His reply was: ‘Ricardo’s theory of comparative advantage’; see Paul Samuelson (1995, p. 22). Truth, however, in Samuelson’s reply refers to the fact that Ricardo’s theory of comparative advantage is mathematically correct, not that it is empirically valid. The goal of this paper is to assess the empirical performance of Ricardo’s ideas. To bring Ricardo’s ideas to the data, one must overcome a key empirical challenge. Suppose, as Ricardo’s theory of comparative advantage predicts, that different factors of production specialize in different economic activities based on their relative productivity differences. Then, following Ricardo’s famous example, if English workers are relatively better at producing cloth than wine compared to Portuguese workers, England will produce cloth, Portugal will produce wine, and at least one of these two countries will be completely specialized in one of these two sectors. Accordingly, the key explanatory variable in Ricardo’s theory, relative productivity, cannot be directly observed. This identification problem is emphasized by Alan Deardorff (1984) in his review of empirical work on the Ricardian model of trade (p. 476): “Problems arise, however, most having to do with the observability of [productivity by industry and country]. The...problem is implicit in the Ricardian model itself...[because] the model implies complete specialization in equilibrium... This in turn means that the differences in labor requirements cannot be observed, since imported goods will almost never