On Foreign Trade

Chapter VII explains why two countries may trade even when one country can make both goods with less labour. Ricardo's answer is comparative cost: what matters is not who is absolutely better at everything, but what each country gives up when it makes one thing instead of another.

Term	Meaning
Foreign trade	Exchange between countries, moving goods rather than freely moving capital and labour
Absolute advantage	One country can make a good with less labour than another country
Comparative advantage	One country gives up less of the other good when it specializes
Terms of trade	The exchange ratio at which imported and exported goods trade
Necessaries	Wage goods such as food and clothing that enter the labourer's cost of subsistence
Profit rate	The capitalist's residual return after wages, which rises only if wage costs fall

Ricardo asks why Portugal might send wine to England and receive cloth from England, even if Portugal can produce both wine and cloth with less labour. The answer is that Portugal's advantage may be larger in wine, while England's disadvantage may be smaller in cloth.

The point is beginner-simple but easy to miss. A country should not ask, "Can we make this?" It should ask, "What else must we stop making if we make this ourselves?"

Ricardo's famous cloth-and-wine example uses labour numbers like a small machine. Suppose England needs 100 workers for cloth and 120 for wine. Portugal needs 90 workers for cloth and 80 for wine. Portugal is better at both in absolute terms, but its strongest advantage is wine.

England:  cloth 100 workers, wine 120 workers
Portugal: cloth  90 workers, wine  80 workers

England's wine costs 120 / 100 = 1.20 cloth units
Portugal's wine costs  80 /  90 = 0.89 cloth units

Portugal gives up less cloth when it makes wine. England gives up less wine when it makes cloth. Trade lets each country receive the good that is relatively expensive at home.

Foreign trade expands the range of useful commodities a country can command. England may receive wine more cheaply through Portugal than by making it at home. Portugal may receive cloth on better terms than if it diverted more labour into cloth.

But Ricardo adds a sharp limit: foreign trade does not automatically raise the general rate of profits. Profits rise only if trade lowers the cost of the goods that workers need, because lower necessaries allow money wages to fall relative to output.

This connects Chapter VII back to Chapter VI. The profit rate is still governed by wages. Trade matters for profits when it cheapens corn, clothing, or other labourers' necessaries; trade in luxuries may enrich consumption without changing the distribution between wages and profits.

Start with a home-only world. England can make cloth with 100 workers or wine with 120 workers. Portugal can make cloth with 90 workers or wine with 80 workers.

Country	Cloth labour	Wine labour	Wine's opportunity cost
England	100	120	1.20 cloth
Portugal	90	80	0.89 cloth

Portugal has the lower opportunity cost for wine, so wine is Portugal's comparative good. England has the lower opportunity cost for cloth relative to its own wine, so cloth is England's comparative good. If the exchange ratio sits between the two internal ratios, both sides can gain.

Now add the profit caveat. Suppose a manufacturer sells output worth 200 and the wage basket costs 100; profit is 100. If imported corn or clothing makes the wage basket cost 90, profit rises to 110. If trade only brings finer wine for rich consumers, the profit calculation need not change.

Case	Output	Wage basket	Profit
Before cheaper necessaries	200	100	100
After cheaper necessaries	200	90	110
More imported luxuries only	200	100	100

Keep the chapter in two separate boxes. The first box is about international specialization. The second box is about domestic distribution.

TRADE GAIN
  compare opportunity costs
  specialize where sacrifice is lowest
  exchange at a ratio between home costs

PROFIT GAIN
  did imports cheapen wage goods?
      yes -> necessary wages fall -> profits rise
       no -> abundance may rise, profit rate unchanged

Ricardo keeps these boxes separate because he wants free trade to be praised for the right reason. It can increase wealth and choice even when it does not raise profits. It raises profits through a narrower channel: cheaper necessaries.

Chapter VII prepares Ricardo's arguments about corn laws and taxation. If imported corn lowers the cost of subsistence, then trade can relieve the profit squeeze described in Chapter VI. If policy blocks cheap corn, cultivation must press harder on inferior land, wages remain high, and profits stay under pressure.

The chapter is therefore not just about wine and cloth. It is the bridge from pure value theory to policy: should a country force food to be grown at home if cheaper food abroad would lower wages and support profits?

Ricardo's Chapter VII gives the classic statement of comparative advantage and then limits what trade can do for profits.

• Trade depends on comparative cost, not absolute superiority.
• A country can import a good even from a country that is more efficient in both goods.
• Specialization works when each side gives up less by producing its comparative good.
• Foreign trade increases abundance, but it raises profits only when it cheapens wage goods.
• Cheap imported necessaries link trade policy back to wages, rent, and profits.

A reader is ready to move on when they can separate the trade argument from the profit argument.

• [ ] Can you explain why Portugal may export wine even if it is also good at cloth?
• [ ] Can you calculate wine's opportunity cost in cloth for each country?
• [ ] Can you use the lab to change which country has the stronger wine advantage?
• [ ] Can you explain why imported luxuries may not raise the general rate of profits?
• [ ] Can you connect cheaper imported corn to lower wages and higher profits?