• The HO model is also called the Factor Proportions Model. • Developed by Eli Heckscher and BertilOhlin. It has been enriched by Paul Samuelson and Wolfang Stolper
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Predictions of HO model
In sum, the main result is that:
Countries tend to export goods whose production is intensive in factors with wich they are abundantly endowed.
w r
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Note
We assume that relative prices depend upon relative costs. Then we have:
pc w ⇔ pF r
.
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The Heckscher-Ohlin Model
Note. As long as a country produces both goods there is a one-to-one relationship between the relative prices of good and the relative prices of factor used to produce the goods. Relative abundance of a factor implies that its relative cost is less than in countries where it is relatively scarcer. Conversely, relatively scarce resources are more expensive 15
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Linking with CA
Heckscher-Ohlin Theorem: Countries have Comparative Advantage in, and (therefore) export, goods that use intensively the relatively abundant factors.
LH LF > TH TF
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Abudant Factors
Consider that US has 80 million workers and 200 million acres while UK has 20 million workers and 20 million acres. Which country is labour-abundant?
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Distribution of income
Following HO model, international trade has a powerful effect of income distribution. In Home country people who get their income from labour gain form trade but those who get their income from land are worse off. In foreign country the opposite happens: Laborers are worse off and landowners are better off. That is, owners of an abudant factor gain from trade, but owners of a country’s scarce factors lose.
Before trade
Before trade (autarky) we have that:
pc pc < * pF pF
*
Given that Home is a labor-intensive country. That is in Home the relative price of clothes in terms of food is lower than relative price in foreign.
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Factor Price Equalization
One of the most important prediction of HO model is that factor prices must converge. Is this true? In the real world factor prices are not equalized
Answer: UK
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Abudant Factors
Note that abundance is defined in terns of a ratio and not in absolute quantities. For example, If US has 80 million workers and 200 million acres while UK has 20 million workers and 20 million acres, we consider UK labour-abudant even if it has less total labour than US. In fact:
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Abundant Factors
In order to verify which factor of production can be considered relatively abudant we start computing the ratio between the total supply of one factor and the total supply of the other factor. In our case
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The Heckscher-Ohlin Model
• There are two countries Home and Foreign. • They both produce cloth and food. • Home is labor-abudant and Foreign is land-abundanodel
In Home the rise in relative price of cloth leads to a rise in the production of cloth and a decline of relative consumption. So home becomes an exporter of clothes and an importer of food. The decline in relative price of clothes in foreign leads it to become an importer of cloth and an exporter of food.
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The Heckscher-Ohlin Model
1.Countries differ in endowments of factors In its original formulation such differences relate to capital, land, labor, physical ad natural resources
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Predictions of HO model
(1) Countries tend to export goods whose
production is intensive in factors with which they are abundantly endowed. (2) Owners of a country’s abundant factors gain from trade, but owners of a country’s scarce factor lose (there are winners and losers) (3) There is a convergence of factor prices. (factor prices equalization)
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Factor Price equalization
2
The Heckscher-Ohlin Model The Ricardian Idea of CA does not disappear. Comparative advantage is determined by: (1)Factor endowments of countries (2)Factor intensities of industries
LUK LUS > TUK TUS
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Costs and Prices
If w is the hourly wage rate of labour and r is the cost of one acre of land, the relative cost can be expressed through:
Total Supply of labour L = Total Supply of Land T
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Abundant Factors Then, making a comparison between two countries (Home and Foreign) we will say that the home country is relatively more abundant in labour if and only if:
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Factor Price Equalization
Factor price equalization is based upon the convergence of relative prices. Since a convergence in relative price is predicted there must be also a convergence in factor prices. For example wages should equalize. A country exporting clothing should experience a rise in wage.