FREC 410
International Ag. Trade & Marketing
Factor Proportions Model
(Heckscher-Ohlin (H-O) Model)
Dr. Titus Awokuse
http://www.udel.edu/FREC/Awokuse/FREC410_webpage.htm
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Factor Proportions (HO) Model
Review of Ricardian Model
Labor as only factor
„ Differences in labor productivity is viewed
as basis for comparative advantage
„
„
Other basis for trade (ignored by Ricardo’s
model) is differences in countries resource
endowments
Basis for trade is: differences in countries
resource (factor) endowments
„ Factor endowment is viewed as basis for
comparative advantage in H-O model
„ Differences among nations due to:
„
proportions of resource ___________
proportions of resource ____ in production
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Why Call it HO Model?
4 Main Results of H-O Model
„
Developed by Eli Heckscher (H) & Bertil Ohlin (O)
„
The H-O Theorem
„
Later, HOS model
„
The Factor Equalization Theorem
„
The Stolper-Samuelson Theorem
„
The Rybczynski Theorem
„
NOTE:
to include Paul Samuelson’s contributions)
„
Enhancement to Ricardian Model of C.A.
Did not assume __________________
We will not emphasis the mathematical derivations and proofs, but
rather focus only on the meaning and implications of the theorems
for international trade in commodities
Did not assume difference ______________
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The H-O Theorem
H-O Model Assumptions
A nation will export the commodity whose
production requires intensive use of the nation’s
relatively abundant and cheap factor and import
the commodity whose production requires
intensive use of the nation’s relatively scarce and
___________________.
2)
2x2x2 Model
Factor intensity
3)
Factor mobility
4)
Factor Abundance
5)
Production functions are identical across countries
1)
____________________
Analytical Application
„ Predicts the pattern of international trade
6)
Perfect competition in goods and factor mkts
K-abundant _____________________________
7)
Equal tastes and preferences in both countries
L-abundant nation ______________________
8)
Incomplete ___________
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H-O Model Assumptions
H-O Model Assumptions
1) 2x2x2 Model
2) Factor ____________:
2 Countries: (e.g. US and India)
2 Commodities: Clothing (C) and Steel (S)
2 Factors of production: L and K
„ Differing factor proportions (use and availability)
across and within industries
Eg. Steel production use more K than in textiles
Implies different industries producing diff goods
have diff K/L ratios
„ Same factors used in both food and cloth sectors
Steel is K-intensive (if S production uses more K
per unit of L than is used in production of C)
Clothing is L-intensive (if C production uses more
L per unit of K than is used in production of S)
3)
Factor ________: Factors are mobile within
country, but not internationally
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H-O Model Assumptions: contd.
4) Factor Abundance:
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H-O Model Assumptions: contd.
5) Production functions are identical across
A country is K-abundant relative to another
country if it has more K endowment per L
endowment than the other country – i.e.
_____________
countries within an industry
6) Perfect competition in goods and factor mkts
7) Equal tastes and preferences in both
countries
8) Incomplete specialization
If US is K-abundant then it can be inferred that
France is L-abundant – i.e. _______________
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Autarky: No Trade
Autarky: No Trade
Y
U1
Uo
Y
Nation A
.
Nation B
PPF
.
K
J
U1
Uo
(Px/Py)A
(Px/Py)B
PPF
X
X
„
Case 1A: Nation A
„
Case 1B: Nation B
Y is capital-intensive good; X is labor-intensive good
Y is capital-intensive good; X is labor-intensive good
Nation A is ________________
Nation B is __________________
(Px/Py)B = __________________
(Px/Py)A = ______________
At point K, domestic production = consumption
At point J, domestic production = _______________
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Autarky: No Trade
Y
Nation B
K
.
Gains from Trade
Y
(Px/Py)B
.
J
.
.
Nation B
K’
(Px/Py)A
U1
D
Uo
C
E
Nation A
Case 1C: Together
.
. .
X
„
(Px/Py)B = (Px/Py)A
J’
Case 2: Specialization and Trade
U1
Nation A
X
Firms move goods to foreign mkts with temporarily higher prices
Disparity in prices between A and B (will induce trade)
Y is capital-intensive good; X is labor-intensive good
Trade flows will rise until prices are equalized in both mkts
A is L-abundant; B is K-abundant
Nation B: produces at K and consumes at C
(Px/Py)B > (Px/Py)A - differences in slopes = ____________________________
„
exports DK to nation A
Y is relatively cheaper in nation A than in nation B
„
imports _________________________________
Nation A: produces at J and consumes at C
X is relatively cheaper in nation B __________________________
Better TOT ________________________________________________
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„
exports EJ to nation B
„
imports _________________________
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Implications of H-O Model
Implications of H-O Model
Continued …
1)
At autarky: A country consumes (produces)
4) Trade raises (relative & absolute) return to
proportionately more (less) of a commodity in which its
abundant factor (and reduces return to the
other)
relative factor endowment is
_________________________________
2)
Trade allows greater production of good intensive in the
abundant factor (less of other)
3)
5) Arbitrage (trade) results in the law of one price
(commodity price equalization)
6) Trade equalizes the rates of return to resources
_________________________
Trade allows more consumption of good intensive in
least ________________________________
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Factor Price Equalization Theorem
Main Results of H-O Model
„
The H-O Theorem
„
The Factor Equalization Theorem
„
The Rybczynski Theorem
„
The Stolper-Samuelson Theorem
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International trade will bring about the equalization
in the relative prices of goods which in turn,
causes the convergence of the relative prices of
factors ________________
Analytical Application
„ Basis of some arguments against NAFTA
Fear that _______________________
US job ____________________
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Factor Equalization Theorem: contd.
„
Factor Equalization Theorem: contd.
Based on 2 H-O model assumptions
2 countries share identical production
technologies
Mkts are perfectly competitive (w=P*MPL)
„
Factors are paid on basis of the value of their
marginal productivity which in turn depends on the
__________________
„ When prices differ b/w nations – so will their MP’s
„
Factor price equalization is not always observed
Due to differences in production technologies
Reality: free trade cause a tendency for factor
prices to move together if some of the trade
b/w nations is based on _______________
and hence so will wages and rent
„
But once goods prices are equalized in
international trade – the VMP are also equalized -_______________________________
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The Rybczynski Theorem
Main Results of H-O Model
„
The H-O Theorem
„
The Factor Equalization Theorem
„
The Rybczynski Theorem
„
The Stolper-Samuelson Theorem
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An increase in a nation’s endowment of a
factor will cause an increase in the final
output of the good which uses that factor
intensively, and a decrease in the output
of the other good.
Analytical Application
„ Predicts ________________________
„ Predicts effect of population growth
„ Predicts effect of ___________________
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Rybczynski Theorem: contd.
Main Results of H-O Model
• Relationship b/w endowments & outputs
• Effect of rise in L-endowment:
¾ Outward shift in L-constraint (PPF shift from E to F)
¾ Production of clothing (L-intensive) rises to c2
¾ Production _________________________________
Qs
L- constraint
s1
„
The H-O Theorem
„
The Factor Equalization Theorem
„
The Rybczynski Theorem
„
The Stolper-Samuelson Theorem
E
F
s2
c1
c2
K- constraint
Qc
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Stolper-Samuelson Theorem: contd.
The Stolper-Samuelson Theorem
„
If the output price of the K-intensive good rises
then the rental rate of K (used intensely in that
industry) will rise, while the wage rate paid to L
will fall. Similarly, if the price of the L-intensive
good were to rise then the wage rate will rise,
while _____________________________.
„
Relationship b/w output & factor prices
Effect of rise in price of steel:
Outward shift in steel’s zero profit line (shift from E to F)
Rental rate for K rises from r1 to r2
Wage rate for __________________________
r
Analytical Application
„ Effect of tariffs on ______________________
„ Effect of trade ________________
Zero profit line for clothing
Zero profit line for steel
r2
F
E
r1
w2
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w1
w
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NEXT:
Empirical Evidence
for Trade Models
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