Trade Models: Extensions
and Applications


Factor Endowment Theory (Heckscher
– Ohlin
Factor Price Equalization(Samuelson)
Does Factor Endowment Theory Work?

Does Factor Price Equalization Happen?
Trade Models: Extensions
and Applications


Theory of Overlapping Demand
Intraindustry Specialization and
Trade


Dynamic Comparative Advantage
• Industrial Policy
Trade in Services
• Product Life Cycle Model

Supply – Demand Model of Trade
• Environmental Protection and Costs
• Transportation Costs
Factor Endowment Theory
(Heckscher – Ohlin)
 Focus
on Supply: Technology
and input factors
 Labor
 Land
 Capital
Factor Endowment Theory
(Heckscher – Ohlin)
 Assume:
everyone uses the
same technologies to make
things.

Then: a nation has comparative
advantage in things that use a lot
of its relatively abundant and
cheap factor.
Factor Endowment Theory
(Heckscher – Ohlin)

Also assume: everyone has the
same tastes.

Then:
A nation will export things that use a
lot of its relatively abundant and
cheap factor.
 A nation will import things that use a
lot of its relatively scarce and
expensive factor.

Factor Price Equalization

A nation exports things that use a lot of its
relatively abundant and cheap factor.


In the exporting country, demand for this
abundant factor increases.
• The wage of the abundant factor increases.
In the importing country, where this factor is
scarce and expensive, demand for this factor
decreases.
• The wage of the scarce and expensive factor
decreases.
Factor Price Equalization

The factor’s wage is equalized in
the exporting and importing
countries.

Trade substitutes for factor
flows.
Does Factor Endowment Theory
Work?
Export:Import Ratios
Product
US
Technology-intensive
Standardized
Labor-intensive
Services
Primary products
1.5
0.4
0.4
1.5
0.6
Japan FRG
5.7
1.1
1.0
0.7
0.0
2.4
0.8
0.6
0.8
0.3
US has relative abundance of scientific
workers
… and US does export hi – tech things.
UK
1.4
0.8
0.7
1.3
0.8
Does Factor Price Equalization
Theory Work?

In US, skilled workers are relatively
abundant.


TRADE  Rich get richer.
Poor get poorer.
Globalization disciplines workers
 Globalization disciplines all
factors
Theory of Overlapping Demands

Most US trade in manufactures is with
other rich nations.

Linder: countries with similar incomes
have similar tastes and patters of
demand.

 Firms first establish themselves in
home market.
 Firms find foreign markets where
demands overlap.

Intraindustry Trade: Import and
Export the “Same” Thing
Homogeneous products
 Transport savings near borders
 Seasonal reasons
Differentiated products
 Focus on particular product in industry
Exploit economies of scale
Serve domestic “majority” and
overlapping foreign demand
Supply – Demand Model of
Trade
In the absence of trade, the same
good will sell for different prices in
different places.
An opportunity presents itself:
BUY LOW – SELL
HIGH
Supply – Demand Model of
Trade
If the production proceeds under
increasing costs
Cost and price in the exporting country
increases
Cost and price in the importing country
decreases
Cost and price in the two countries
converge.
Transportation costs
Free trade under increasing costs
No transportation costs
Auto price
($ thous.)
United States
S
S
F
8
a
b
6
Canada
c
d
E
4
D
D
Autos
6
4
exports
2
2
4
imports
6
Autos
Transportation costs
Free trade under increasing costs
Transportation costs of $2000 per auto
Auto price
($ thous.)
United States
S
8
7
e
f
S
Canada
F
g h
5
4
E
D
D
Autos
5 4 3
exports
3 4 5
imports
Autos