Global economy

The economic order – balance between free trade and protectionism

In the previous exercise it was suggested that the WTO is basically for the liberalisation of the global economy, that is for free trade. But what exactly is free trade and how does it work?

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What is free trade?

David Ricardo, a British economist, developed the free trade theory at the beginning of the 19th century. The basic idea behind free trade is to open up all markets, remove duties and thus promote trade which regulates itself at the same time. (See also „die unsichtbare Hand“)

This model is defined by two basic theories:

• Comparative advantage: in the open economic system, national economies specialize in products which provide comparative advantages. These are products which a country can produce particularly well due to its local amenities. Since each country has different advantages and, as such, different goods and services are produced, foreign trade develops through exchanges between the national economies.
  Example: England produces towels, Portugal wine. If both countries concentrate on their respective production methods and exchange with each other, both economies function better than if they each produced both towels and wine. In Portugal the climatic conditions are better and in England industry is fully specialised in textile production.


• Increasing economies of scale: As a country increases its production of goods in which it has specialized, the costs per unit decrease. The production of the goods becomes more and more profitable and the prices for consumers sink.

Sources

ATTAC (Hg., 2003): Die geheimen Spielregeln des Welthandels. Wien.