The Magic of Trade

I have just broken my leg.  You are just recovering from a broken leg.  I have a bicycle.  You have a wheelchair.  Due to the conditions of our respective legs, my bicycle is worth more to you than your wheelchair is, and your wheelchair is worth more to me than my bicycle is.  We meet and swap bicycle and wheelchair.  As a result of our trade, we are both better off.  

This is the magic of trade.  Notice a couple features here; nothing new was produced yet the aggregate standard of living increased.  No intervention from a third party was necessary.  The only prerequisite for this spontaneous increase in living standards was in fact the absence of a third party either dictating that the exchange should take place or that it not take place.  In other words, economic freedom.  Finally that there is no objective standard of value involved.  The improvement in our standards of living directly results from the fact that the same goods have different value to different people.  Value is subjective.

If my bicycle is worth less to you than your wheelchair chair is and vice versa, then a policy calculated to induce an exchange may result in more economic activity yet lower living standards.

This means that economic statistics such as GDP are at best incomplete measures of living standards and that policies designed exclusively to optimize them can potentially destroy value and impair genuine prosperity.  And that the primary policy prerequisite for prosperity is not fiscal stimulus, monetary stimulus, or other measures calculated to induce activity that would otherwise not take place, but liberty.  

Another consequence is that it doesn’t matter whether there happens to be an international border between the trading partners involved.  A tax between parties living in the same country, for example an income tax, is no less of a drag on economic well-being than one imposed at a border.  Trade does not somehow become more important just by virtue of crossing a national border.

We’ll discuss further implications of this fundamental principle in future posts.