Murphy, Eithne (2013) The evolution of trade theory: an exercise in the construction of surrogate or substitute worlds?. PhD Thesis. SOAS, University of London http://eprints.soas.ac.uk/18066 Copyright © and Moral Rights for this thesis are retained by the author and/or other copyright owners. A copy can be downloaded for personal non‐commercial research or study, without prior permission or charge. This thesis cannot be reproduced or quoted extensively from without first obtaining permission in writing from the copyright holder/s. The content must not be changed in any way or sold commercially in any format or medium without the formal permission of the copyright holders. When referring to this thesis, full bibliographic details including the author, title, awarding institution and date of the thesis must be given e.g. AUTHOR (year of submission) "Full thesis title", name of the School or Department, PhD Thesis, pagination. The Evolution of Trade Theory: An Exercise in the Construction of Surrogate or Substitute Worlds? Eithne Murphy Thesis submitted for the degree of PhD in 2013 Supervisor: Professor Ben Fine Department of Economics SOAS, University of London 1 Declaration for PhD thesis I have read and understood regulation 17.9 of the Regulations for students of the SOAS, University of London concerning plagiarism. I undertake that all the material presented for examination is my own work and has not been written for me, in whole or in part, by any other person. I also undertake that any quotation or paraphrase from the published or unpublished work of another person has been duly acknowledged in the work which I present for examination. Signed: ______________________________ Date: _________________ 2 Acknowledgements I would like to thank my supervisor Ben Fine for his insights, encouragement and, above all, patience in what was a very stop-go exercise. Without his support, I would not have completed. I would also like to express my gratitude to my work colleague Claire Noone, who has been so helpful over the years, but never more so than in these last few months. Finally, I would like to dedicate this work to the memory of my deceased friend and colleague Eoghan Garvey, who always encouraged me to trust my instincts and who inspired by example. 3 Abstract This thesis interrogates the nature of neoclassical economics through the prism of the evolution of international trade theory. A unique feature of trade theory has been the successful transformation of the core hegemonic model of comparative advantage from its roots in classical political economy into forms compatible with neoclassical thought. This continuity serves to convey an image of progress in economic thought. Moreover, the type of abstraction associated with the comparative advantage model of trade, and the counter-intuitive insights that derive from it, have been frequently cited by economists as proof of the scientific nature of orthodox economic theorising. It is therefore important to appraise the epistemic nature of trade theorising, especially given the paucity (until relatively recently) of empirical work. It is the contention of this thesis that the development of trade theory was characterised by a retreat from social realism. Model development was increasingly driven by tractability considerations as opposed to ontological ones. Initially, this necessitated describing the social environment in an unrealistic, idealised way. The narrowing associated with this process reached its culmination when trade theory was successfully subsumed as part of general equilibrium analysis. Latterly, this process of narrowing has been reversed, with trade modelling allowing for various forms of imperfect markets. This thesis attempts to show that the process of narrowing and subsequent broadening was driven, primarily, by internal, discipline-specific considerations of tool development and not by concerns with empirical adequacy. This assertion is bolstered by considering the multifarious stratagems used by mainstream theorists to defend core trade propositions from various empirical challenges during the period of mainstream model construction. The ultimate effect of these theoretical endeavours has been the creation of “substitute worlds” that do little to facilitate a deeper understanding of causal reality, possibly because that is not their purpose. 4 Contents Chapter 1 Introduction 9 1.1 Preamble 9 1.2 Disciplinary Context 9 1.3 Why International Trade? 12 1.4 The Fundamental Question 15 1.5 A Parable on how an Economics Education can exorcise 17 Commonsense 1.6 Objectives and Contribution 21 Chapter 2 Trade I: The Evolution of International Trade Theory: 31 A Progressive Research Programme? 2.1 Introduction 31 2.2 The Scientific Claims of International Trade Theory 34 2.3 The Treatment of International Trade in the History 36 of Economic Thought 2.4 The Orthodox Version of Classical Trade Theory: 43 The Static Model 2.4.1 Adam Smith, the warm-up act 43 2.4.2 Ricardo and his 4 magic numbers 44 2.4.3 Translating comparative advantage into competitiveness 45 2.4.4 Mill and the division of the gains from trade 47 2.5 Early Neoclassicals and the Refinement of Trade Tools 49 2.6 The Ontic Concerns of the Classical Economists and their 52 Dynamic Models 2.6.1 Smith and his mixed messages 52 2.6.2 Ricardo and the repeal of the Corn Laws 56 2.6.3 Trade policy and other classical economists 61 5 2.7 The Early Neoclassicals and the Triumph of Tools over 62 Ontic Concerns 2.7.1 Preamble 62 2.7.2 Henry Sidgwick and his unemployment and 63 emigration fears 2.7.3 J. S. Nicholson and imperfect markets 65 2.7.4 Charles Bickerdike and the terms of trade argument 67 for tariffs 2.7.5 Bastable and Pigou: defenders of the orthodoxy 68 2.7.6 Understanding the role of Marshall in the triumph 69 of tools over ontic concerns 2.7.7 Social realism and the trade policy position of 73 non-British economists 2.8 Later Neoclassicals and the Neoclassical Reformulation 76 of Comparative Advantage 2.8.1 Gottfried Haberler and the discarding of the labour 76 theory of value 2.8.2 Heckscher and Ohlin, and Samuelson’s formalisation 79 of their insights 2.9 The Legacy 82 2.9.1 The empirical productivity of neoclassical trade theory 82 2.9.2 The theoretical productivity of neoclassical trade theory 83 2.10 Concluding Comments 85 Chapter 3 Trade II: The Forgotten Challenges to the Central Tenets of 88 International Trade Theory 3.1 Introduction 88 3.2 Constant Employment and Free trade 90 3.2.1 The unusual case of how posterity has treated 90 Auguste Cournot’s theory of international trade 3.2.2 Schuller and the empirical reality of underutilised 98 resources 3.2.3 Keynes and the macroeconomic reality of 102 inefficient economic equilibrium 3.3 The Quality of Work and Nature of Production 108 3.3.1 Graham’s theoretical challenge 108 6 3.3.2 Manoilescu’s empirical observations 113 3.4 The Infant Industry Exception to Free Trade 125 3.4.1 Infant industries: Integral to mercantalism and 125 yet running within free Trade logic? 3.4.2 Hamilton and his rejection of laissez-faire 127 3.4.3 John Rae, the strangely neglected but intellectually 129 consequential Scottish economist 3.4.4 The well known but much reviled Friedrich List 133 3.4.5 Similarities and differences between the three 139 theories of infant industry protection 3.4.6 Infant industry in classical political economy and 141 its neoclassical offspring 3.5 Development Economics and its lack of impact on 148 International Trade Theory 3.6 Conclusion 158 Chapter 4 Trade III: Bringing it all Back In: Neoclassical Trade Theory 162 gets more real? 4.1 Introduction 162 4.2 Factor Market Imperfections: The First Permitted Wrinkle 164 in the Neoclassical Trade Model 4.2.1 Explaining labour markets by recourse to factor market 164 imperfections: an example of neoclassical reductionism 4.2.2 Why factor distortions posed a minimal threat to 167 neoclassical trade theory 4.2.3 Weaknesses in the neoclassical analysis of labour 170 markets and trade 4.2.4 Diminishing returns to orthodox theorising as an 172 explanation for the research on neoclassical labour markets and trade 4.3 Increasing Returns: A Spotted History within Neoclassical 173 Trade Theory 4.3.1 Questioning the unpalatable but preserving the useful: 173 the irrelevance of empirical relevance 4.3.2 The grudging acceptance of external economies: 175 theoretical productivity reigns again 4.3.3 The indispensability of external economies to a 182 later heuristic: reconciling optimisation and dynamics 7 4.4 New Trade Theory: Technical Wizardry to what Effect? 183 4.4.1 Separating truth from fiction 183 4.4.2 Monopolistic competition part 1: Homogenous firms 185 4.4.3 Oligopolistic trade models: claiming realism but not 188 so real 4.4.4 Monopolistic competition part 2: Economic geography 194 4.4.5 Monopolistic competition part 3: Heterogeneous firms 200 4.5 Dynamic Trade theory 205 4.5.1 The danger and the challenge of dynamics 205 4.5.2 Microfoundations prevail at the cost of empirical 208 relevance 4.5.3 The mainstreaming of dynamic issues: laying the 210 foundations 4.5.4 The mainstreaming of dynamic issues: the edifice 212 4.5.5 Trade, endogenous growth and old infant industry arguments 217 4.6 Resolving the Policy Debate 220 4.7 Value Added of Recent Research 223 Chapter 5 Conclusion 226 5.1 What has been done and why? 226 5.2 How has the Exercise been Conducted? 227 5.3 Findings 228 5.4 Has Economic Science exhibited Progress? 243 5.5 Why has Economic Research been so Unsuccessful? 244 5.6 What is to be done? 247 References 251 8 Chapter 1.