Free Markets and Free Trade, Ecology and Economics

· Ecology and evolution
Authors

Darwin’s theory of evolution by natural selection was deeply influenced by a leading geologist of his time, Charles Lyell [1], by a leading demographer, Thomas Robert Malthus [2], and by a leading economist, Adam Smith [3]. Lyell proposed the theory of uniformitarianism, according to which geological patterns over time were shaped by the same factors that are effective today, and that changes occurred gradually. Malthus realized that demand grows faster than supply, leading to competition for resources, and Smith proposed that market forces regulate prices establishing an equilibrium, thus avoiding the catastrophe predicted by Malthus. He also proposed a mechanism justifying free trade between countries, i.e., the idea of absolute advantage, soon to be replaced by Ricardo’s principle of comparative advantage [4]. – Darwin’s theory [5] is at the basis of much of modern ecology, i.e., of what is best called equilibrium ecology [6]. Its three pillars are competition for resources (or struggle for existence), survival of the fittest, and equilibrium in nature. – In parallel, free market economy is largely based on Smith’s and Ricardo’s ideas. Its pillars are competition for resources, the principle of comparative advantage, and equilibrium in economy, although much has happened in the last 200 years and some economists, at least, have incorporated non-equilibrium, ecological and psychological approaches.- Here we examine how recent findings on ecology have changed our views on equilibrium in ecological systems, and whether these findings can be applied to economics.

Definitions

First, I give definitions of the terms used.

Absolute advantage:

a country has an absolute advantage over another country in producing something, if its production costs for this product are lower.

Autecology:

the study of the ecology of particular species and populations.

Character displacement:

a change in the characteristics of a species due to competition with other species, or due to reinforcement of reproductive barriers.

Comparative advantage:

a country has a comparative advantage over another country in producing something, if its “relative production costs” are lower (or: for which the “opportunity cost” of production is lower: see opportunity cost).

Competition:

process which leads to the survival of the fittest within species (intraspecific competition) or between species (interspecific competition).

Density dependence:

dependence on population density (individuals per unit area).

Equilibrium:

balance in economy and nature.

Evolution:

the changes in the kinds of species and their characteristics over time.

Limiting resource:

a resource (food, space, etc.) which is potentially in limited supply, i.e., which limits the size of a population even if other resources are abundant.

Malthusian catastrophe:

catastrophe arising from the discrepancy in the increase of demand and supply.

Natural selection:

mechanism which drives evolution by the survival of the fittest.

Niche:

a species’ place in nature, or: a species’ place in multidimensional hyperspace (niche space with many niche dimensions; see: niche dimension).

Niche dimension:

any of the many dimensions (such as habitat, food, salinity, environmental temperature, etc.etc.) of a niche defining a species’ place in nature.

Non-equilibrium:

non-balance in nature.

Opportunity cost:

amount of product which must be given up in order to produce one more unit of another product.

Optimization:

optimal adaptation to environmental conditions.

Reinforcement of reproductive barriers (= Wallace effect):

change in characteristics of a species which prevents hybridization with a closely related (congeneric) species, due to its co-occurrence with such species.

Uniformitarianism:

the theory according to which geological patterns over time were shaped by the same factors that are effective today, and that changes occurred gradually.

Vacant niche:

the potential that more species can exist in a habitat than are present at a particular point in time.

Vagility:

the degree with which individuals or species can move around in and between habitats.

Wallace effect:

see reinforcement of reproductive barriers.

The benefits of free trade

There can be no doubt that free markets/free trade have been of great benefit to many countries, lifting millions out of impoverishment. The aim of this article is not to put this in doubt, but to warn against raising free market economics to a dogma that has to be followed under any circumstances, disregarding local conditions and potential dangers to developing (and developed) countries.

History of concepts

As pointed out above, much has happened in economics theory in the two centuries since Smith and Ricardo. This article does not attempt to consider all such developments, but restricts itself to looking at some important “classical” assumptions, which are still dominant in the field.

Free markets in economy

Ricardo’s principle of comparative advantage was developed as a justification for free trade, replacing the earlier justification based on absolute advantage by Adam Smith. It means that even if a country has an absolute advantage over another in producing something, it may still be advantageous to concentrate on another product, for which it does not only have an absolute advantage, but a comparative advantage as well, i.e., for which its “relative production costs” are lower (or: for which the “opportunity cost” of production is lower, where opportunity cost is defined as the amount of product which must be given up in order to produce one more unit of the other product). Even from the viewpoint of the country which has an absolute disadvantage in producing any product, concentration on products with the lowest opportunity costs will be of benefit to it. In other words, both countries will benefit by concentrating on products which they can produce comparatively more cheaply: the overall outcome will be that the total product of both countries will increase. Suranovic (2007) lists a number of assumptions on which the principle is based [7]. They are (for the simplest version of the model): 1) labour is homogeneous within but heterogeneous between countries; 2) goods can be transported without cost between countries; 3) labour can be re-allocated without costs between industries within but not between countries; 4) there is no unemployment; 5) there are differences in production technology across industries and countries; 6) labour and goods markets are perfectly competitive in all countries; 7) firms maximize profit and consumers maximize utility.Obviously, most of these assumptions are unrealistic in many cases of the modern world (and probably always were). However, they are accommodated in more complex models developed to “rescue” the principle. Another possible objection is that the principle, which seems to make perfect sense if the simple case of two countries is considered, may not apply to the far more complex case of many countries: does complexity perhaps lead to quite different dynamics? In ecology, the degree of complexity of an ecosystem may affect its stability: an important problem is whether complexity makes an ecosystem more or less stable. The question therefore arises: how common are conditions which legitimize application of Ricardo’s principle? Important here is evidence provided by Chang that free trade, in history, has always been used by more advanced countries to keep less advanced ones down, preventing them from developing their own industries [8]. – One particularly pernicious example of the misuse of free trade is the opium wars between Britain and China 1839 to 1842 and 1856 to 1860, not long after Ricardo’s principle was developed. They led to corruption in India (where opium was grown) and in China (which was forced to import it), all in the name of free trade: Britain needed the opium trade to pay for its valuable imports from China. This suggests the possibility that the principle may well work for countries which are not too dissimilar (in size, technology, education, tradition, etc.), but that it may be inapplicable to countries that differ vastly in their competitive abilities, opening the way to the innate viciousness of man that tempts the stronger “partner” to misuse its power (see for instance the collapse of the latest (last?) Doha round of free trade negotiations). – More generally, the principle (or model, like most models) abstracts from the psychological deficiencies of the players in the field, making false assumptions and therefore leading to wrong predictions.Equilibrium or not in ecology?

What can ecology teach us in this regard?

At the basis of modern evolutionary theory and ecology is Darwin’s theory of natural selection. Darwin was influenced by the ideas of Thomas Malthus and Adam Smith. According to Malthus, demand grows faster than supply, because populations increase exponentially and food supply arithmetically, leading to a “struggle for existence” and “survival of the fittest”. According to Adam Smith, free markets are regulatory mechanisms acting on the basis of supply and demand, leading to self-adjustment of prices (the “invisible hand”), i.e. to an equilibrium. The disaster predicted by Malthus (the “Malthusian catastrophe”) is avoided by competition (selection). In other words: equilibrium assumptions are an essential ingredient of the theory of natural selection. Darwin wrote in his Origin of Species that “battle within battle” must be continually recurring with varying degrees of success, but in the long-run forces are nicely balanced. One of the great modern ecologists, Hutchinson (1948 [9]), took it for granted that stability (owing to “self-correcting mechanisms”) is characteristic of most ecological systems and permits their persistence. According to the great evolutionary biologist Dobshansky (1957 [10]), natural selection and with it the evolutionary process result from competition, and “therefore are governed by density-dependent factors”. To this day, the belief of the overriding importance of competition between individuals and species in ecological systems, resulting in equilibrium conditions, is widespread. However, is this belief really justified? Important ecologists have pointed out repeatedly that equilibrium conditions in nature are not as common as usually assumed. Thus, Andrewartha and Birch (1954 [11]) did not recognize the predominant role of competition and the general existence of equilibria. More generally, they objected to the approach explaining differences between species by competition for limiting resources resulting in character displacement, pointing out that one should expect to find similar species in similar habitats. One should rather ask: why can species with different ecological requirements live together? – Hengeveld and Walter (1999) distinguished two mutually exclusive paradigms in ecology, the demographic and autecological one [12]. In the former, ecological systems are supposed to be driven by optimization processes (i.e., by processes that lead to a rather fast adaptation to a supposedly more or less constant environment, by competition of individuals and species) leading to equilibrium. In the latter, emphasis is on idiosyncratic adaptations and reproduction of populations and species. According to Hengeveld and Walter, the former paradigm is unrealistic, because environmental conditions change all the time, not permitting short-term optimization. – Rohde (2005) http://www.cambridge.org/9780521674553 [6]), based on a survey of much evidence from various sources from the plant and animal kingdoms, concluded that non-equilibrium is more common than equilibrium in nature. His distinction of non-equilibrium and equilibrium ecology corresponds to a large degree with the two paradigms of Hengeveld and Walter, although he does not consider them to be mutually exclusive. Rather, equilibrium is more likely in communities consisting of vagile and/or large individuals and/or large populations. Literature indicates that equilibrium systems, in which interspecific competition is common, are the exception rather than the rule. – Important here is the demonstration that niche space is largely empty, i.e., many potential niches have never been filled. In other words, there is an abundance of vacant niches. For example, evidence clearly shows that diversity of animals has continually increased over hundreds of millions of years to the present, and that similar habitats often contain vastly different numbers of species.

What can ecology teach us about economics?

As we have seen, the fundamental assumptions of classical economics and equilibrium ecology are surprisingly similar. The pillars of the former are competition for resources, the principle of comparative advantage, and equilibrium; the pillars of the latter are competition for resources (struggle for existence), survival of the fittest, and equilibrium. Concerning ecology, we have seen that resources are seldom exhausted, that competition occurs but is not of the overriding importance often assumed, and that equilibrium conditions are not as common as non-equilibrium ones. This should give us some reasons to at least have a closer look at the assumptions of free market economics. There can be little doubt that there often is competition for resources, but it seems that shortages frequently are of a temporary nature. On the supply side: recent evaluations suggest that wave energy alone would be sufficient to provide all of Australia’s energy; solar energy in Saharan Africa, among others, is only being talked about. On the demand side: demand is artificially and almost(?) hysterically driven up by advertising that plays on greed and “doing better than your neighbour”; and is the political hysteria leading to an ever increasing expenditure on defense perhaps the result of aggressive instincts of man cleverly exploited by nations’ military-PR industrial complexes? – Equilibrium in economy appears to be a fairly transient condition, as shown at this very moment by the global financial crisis.

Conclusions

So, data suggest that some of the basic assumptions both of equilibrium ecology and free market economics are flawed. However, it must be emphasized that in ecology competition and equilibrium are common under certain conditions, and that in economy free trade may well be of benefit when certain conditions are met. In ecology, an autecological approach, which involves a careful and often long-term study of populations and species, may often be of greater use than a demographic one, and in economy, a careful analysis of local conditions permitting a decision on the benefits of free trade may often be useful, in particular when a powerful nation deals with a small developing one.

Addendum

Since this knol was published, Paul Krugman was awarded the Nobel Prize for Economics for work which clearly implies that Ricardo’s principle does not realistically describe what is actually happening.

References

Lyell, Charles (1830). Principles of Geology. John Murray, London.Malthus, Thomas R. (1798). An Essay on the Principle of Population. J.Johnson, London.Smith, Adam (1776). An Inquiry into the Wealth of Nations. Thomas Nelson, Edinburgh.Ricardo, David (1817). On the Principles of Political Economy and Taxation. John Murray, London.Darwin, Charles (1859). On the Origin of Species by Means of Natural Selection, or the Preservation of Favoured Races in the Struggle for Life. John Murray, London.Rohde, K. (2005). Nonequilibrium Ecology. Cambridge University Press, Cambridge.Suranovic, S.M. (2007). International Trade Theory and Policy. The Theory of Comparative Advantage – Overview. http://internationalecon.com/Trade/Tch40/T40-0.phpChang, Ha-Joon (2002). Kicking away the Ladder: Policies and Institutions for Economic Development in Historical Perspective. Anthem Press, London.Hutchinson, G.E. (1948). Circular causal systems in ecology. Annals of the New York Academy of Sciences 50, 221-246.Dobshansky, T. (1957). Discussion, from Andrewartha, H.G.: the use of conceptual models in population ecology. Cold Spring Harbour Symposia on Quantitative Biology, p.235.Andrewartha, H.G. and Birch, L.C. (1954). The distribution and abundance of animals. University of Chicago Press, Chicago.Hengeveld, R. and Walter, G.H. (1999). The two coexisting ecological paradigms. Acta Biotheoretica 47, 141-170.

Acknowledgement

I wish to thank Peter Rohde for some helpful comments.

9 Comments

Comments RSS
  1. Marco Parigi

    One implicit assumption of your knol here is that Ricardo’s principle is not legitimate for cases where the axioms are not reflected in reality. My view regarding these kind of principles is that what is important is that the dynamics predicted by the principle are reflected in reality, and that the mathematics behind the model based on these axioms is tenable and usable at the same time. The test to determine when to stop using Ricardo’s principle is when alternative models show better predictive value. Predictions of Malthusian catastrophes seem to be very unreliable at the least.From what I can tell, countries often behave as if those 7 assumptions were true, even if most of them are false.I am not really clear on the dependence of concepts on whether a system is in or not in equilibrium. When is an economy thought of as being in equilibrium? Are there tests independent of the economic models used?

    • Klaus Rohde

      Concerning your question:”When is an economy thought of as being in equilibrium?”Below are some definitions for economic, genetic and ecological equilibrium. Economists would have to answer the question concerning relevant tests, but it seems to me that only an actual evaluation of data a posteriori could show whether equilibrium has existed or not.From Wikipedia (http://en.wikipedia.org/wiki/Equilibrium):“In economics, economic equilibrium is simply a state of the world where economic forces are balanced and in the absence of external influences the (equilibrium) values of economic variables will not change. Market equilibrium, for example, refers to a condition where a market price is established through competition such that the amount of goods or services sought by buyers is equal to the amount of goods or services produced by sellers. This price is often called the equilibrium price or market clearing price and will tend not to change unless demand or supply change.”“A genetic equilibrium occurs when an allele within a gene pool is not changing in frequency (i.e. evolving). For this to be the case, evolutionary forces acting upon the allele must be equal and opposite. The only basic requirement is that the population be large enough that the effects of genetic drift are minimised. One example is Hardy-Weinberg equilibrium.” There is nothing in Wikipedia on ecological equilibrium, which I would define as follows: An equilibrium point in an ecological system is the population (or community) density to which the population (or community), which has temporarily deviated from it, will always return. Or: an ecological system is an equilibrium system when its density fluctuates around a midpoint. – One might be inclined to add that fluctuations around the midpoint should not be excessively large, although this introduces a subjective aspect to the definition: what is excessive?As pointed out above for economic equilibrium, it seems to me that only an evaluation of data a posteriori can distinguish equilibrium from nonequilibrium ecological systems. One might then make projections for the future development of the system on the basis of whether conditions are likely to change.

    • Klaus Rohde

      Concerning the first part of your comment:”The test to determine when to stop using Ricardo’s principle is when alternative models show better predictive value.”I commented on this already in my knol: it is not so much another model that is needed, but”a careful analysis of local conditions permitting a decision on the benefits of free trade may often be useful, in particular when a powerful nation deals with a small developing one.”

  2. Ryan Faulk

    Horrible — 1. “Since this knol was published, Paul Krugman was awarded the Nobel Prize for Economics for work which clearly implies that Ricardo’s principle does not realistically describe what is actually happening.”- And Obama won a Nobel Peace prize, and Hayek also won a Nobel in economics. Do you even know who decides who wins a nobel prize in economics?2. You are treating freedom as some prescriptive model. It is not, it is what happens when you don’t threaten with imprisonment. These are not dueling prescriptions, but the violent imposition of rules vs. resistance to them.There is “free market dogma” in the same way there is “no murder dogma” and “anti violent theft dogma”. I’m also dogmatic in there not being a god.3. Your characterization of competition is hideously ham-fisted. Firms make deals with each other in supply lines, as do animals in nature. You clearly have not explored arguments for freedom in good faith.4. States control the money supply. See fiat currency and central banks, and in the US see the federal reserve system. The financial market is perhaps the most state-controlled market there is, and thus is chaotic because the false certainty of a state decree leads to chaos.5. Hysterical citizens voting for war is only an issue if there is a state. That’s a failure of your ideology, not freedom.6. The Oil lobby is powerful and does things to prevent alternative energy from coming on line. The state enables cartelization by creating a “web of difficulty” that large firms can bypass, or only apply to new firms entering an industry, or are fixed costs (like a license) which disproportionately hurt small firms. Again, this is a problem of the state.

    • Klaus Rohde

      Thanks for the comment, it is always good to hear somebody who does not agree with you.1. I commented on earlier Nobel prizes in economics and Obama’s peace prize in my blog http://blog.une.edu.au/klausrohde/ .Comments welcome;2. When I say free market dogma I mean (and I believe this is perfectly clear) that free markets are often but not always useful; an examination of local conditions may be important;3. Yes, to a degree, but unfortunately weaker economies are often forced into deals unfavourable to them because they have no other choice; and it is not always companies but governments which determine the rules;4. May be but perhaps not controlled enough;5. ????;6. Yes, indeed, this may well be the case, but wrong rules imposed by a state do not mean there should be no rules.

    • Peter Baskerville

      Anonymous, now that you have taken the trouble to register, why not write a Knol that best outlines your view of the topic that Klaus has developed here. It would be great to read your views in an article rather than just responses to this one.

  3. Michael Pathak

    Industrial Symbiosis as a way of meeting Ecological Economics needs — Industrial Symbiosis is a means of achieving continued growth in the economy whilst minimizing the impact on the environment. It is claimed that an industrial ecosystem in industrial symbiosis may behave similar to the natural ecosystem where everything gets recycled. Technological tools such as open source virtual globes like Google Earth can be used to determine that locations for optimizing symbiosis. A good resource is the following.W. Doyle and J. M. Pearce, “Utilization of Virtual Globes for OpenSource Industrial Symbiosis”, Open Environmental Sciences, 3, 88-96.The link to the article is herehttp://www.bentham-open.org/crdsb/?TOENVIRSJ/2009/00000003/00000001

  4. Seema Singh

    nifty tips — Markets dramatically change they their flow and no one exactly produce or expect 100% from their profits . Choosing the right indicator or analyzing software blended with human aspect gives better results.regards:- http://www.trade4target.com/

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s

%d bloggers like this: