4 HO.pdf - ECON 331 International Trade Heckscher-Ohlin Model Banu Demir Bilkent University Fall 2017\/18 Basis for trade In late 19th-early 20th century

4 HO.pdf - ECON 331 International Trade Heckscher-Ohlin...

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ECON 331 International Trade Heckscher-Ohlin Model Banu Demir Bilkent University Fall 2017/18
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Basis for trade In late 19 th -early 20 th century, two Swedish economists Eli Heckscher and Bertil Ohlin developed a model to study international trade. Di ff erences in factor endowments (labour, capital, land, etc) across countries determine autarky prices. As autarky prices determine trade, resource di ff erences determine trade. Compared to the Ricardian model of comparative advantage, H-O model is relatively easier to test: one can compare resources in di ff erent countries and see if they explain trade patterns. H-O model provides a tractable framework to study interactions between goods prices, factor prices, factor supplies, and trade.
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Questions we can answer using the H-O model Why does China have low wages and export labor-intensive goods? Why do labor unions in the US oppose free trade? How do rising prices for copper a ff ect Chile’s exports of manufactured goods?
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MODEL
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Assumptions “2x2x2” model: two countries (Home, Foreign), two goods (shirts, cars), two factors of production (labour L and capital K ) Full employment of factors of production: L s + L c = L K s + K c = K L ú s + L ú c = L ú K ú s + K ú c = K ú Assume Home is labour abundant (i.e. Foreign is capital abundant): L K > L ú K ú Factors of production are mobile between sectors (but not internationally)
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Main di ff erences from the Ricardian model Two factors of production as opposed to one in the Ricardian model. Relative labour endowments do not matter for comparative advantage in the Ricardian model.
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Supply side Constant returns to scale production functions that are identical in Home and Foreign: Q s = F s ( L s , K s ) Q c = F c ( L c , K c ) Unit input requirements: amount of each factor required to make one unit of output: b Ls = L s Q s ; b Ks = K s Q s b Lc = L c Q c ; b Kc = K c Q c
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Factor intensities Assume car production is relatively more capital intensive (and shirt production is more labour intensive): b Kc b Lc > b Ks b Ls b Ls b Ks > b Lc b Kc These are goods-specific characteristics, they are not specific to countries.
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Factor intensities Assume car production is relatively more capital intensive (and shirt production is more labour intensive): b Kc b Lc > b Ks b Ls b Ls b Ks > b Lc b Kc These are goods-specific characteristics, they are not specific to countries. Factor abundance vs Factor intensity (do not confuse!)
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Factor earnings Workers earn wage income ( W ) Capital owners earn rental income ( R ) Cost minimisation implies that firms will use labour intensive techniques when labour is relatively cheap, and capital intensive techniques when capital is relatively cheap.
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Factor earnings Workers earn wage income ( W ) Capital owners earn rental income ( R ) Cost minimisation implies that firms will use labour intensive techniques when labour is relatively cheap, and capital intensive techniques when capital is relatively cheap.
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