Heckscher Ohlin model

The Heckscher Ohlin model

Introduction

The Heckscher Ohlin model Predicts that different factor endowments between countries is a key issue in the international trade flows but others such a WW Leontief, who in 1954 tried o test the theory empirically, found that this model failed to explain United States trading patterns.

In this Project we are going to explain the Heckscher Ohlin model, discussing several explanations such as : “Leontief Paradox” and other theories which will explain comparative advantage in the international trade

We are also going to apply our Analysis to two countries (?)……………………

The Heckscher Ohlin assumption

The Heckscher Ohlin theory explains why countries trade good and services to each other.

To apply this theory countries have to respect conditions; one of those is that the countries obviously differ with respect to the availability of the factors of production.

We can say that two countries differ if one country for example has more machines than workers and the other one has more workers than machines; in fact according to Heckscher Ohlin a country specializes the production of a particular product or service in base to its factors.

By specializing in production, one country can trade with other countries and doing so it is possible to increase their incomes.

The Heckscher Ohlin theory says that two countries trade goods with each other if the following assumptions hold:

* The factors of production are in different proportion in both countries

* The goods produced require more capital or more labour

* Capital and Labour do not have to move between the two countries

* No cost with goods transporting between the countries

* The citizens of the trading countries must have the same needs

According to the theory, countries have to be different to create a great economic gain from trade and specialization.

For example, imagine that two countries have the same production of two goods , (T-shirts and computers) the countries use the same technologies but the first country has a lot of capital and a limited number of workers while the other country has a lot of workers and just a little capital.

The one with more capital will produce more computers and less T-shirts, because computer are considered as capital intensive while T-shirts are labour intensive.

In the other scenario the country with more workers will be specialised in the production and trade of T-shirts but will produce less computer because of the limited capital.

This theory has been studied by several other economists and they continued to work to come up with new solution in order to help the production and trade between countries.

One of the most famous economists who worked in the Heckscher Ohlin theory is Wassily Leontief (He received the prize in Economics in 1974).

In one of his paper He analysed the US exports, reflecting on why the export is not a very important factor of production in US.

Most of its exports of goods required a lot of labour and the import required lots of capital. In this case this is the opposite with the theory of Heckscher- Ohlin, but Leontiif explained that the workers in the US have a lot of knowledge therefore the US exported goods that required a production factor that the US is well endowed with. Therefore this explaination was consistent to the previous theory.

(http://nobleprize.org/educational _games/trade/ohlin.html)

Leontief Paradox

The Heckscher Ohlin theory positions that each country exports commodity which use its abundant factor intensively.

In 1954 Wassily Leontief made his first attempt to test the Theory.

The result of this attempt was paradoxical; he concluded that US exported labour intensive commodities and imported capital intensive commodities, and due to this result it became to be the Leontief Paradox.

To achieve this result Leontief used the input and output table of the US economy of the 1947 analysing 38 industries that produced commodities in the international market within 50 sectors.

He also divided factors into two different categories such as labour and capital.

The US seems to have more capital per worker than any other worker at the time, therefore The Heckscher Ohlin theory predicts that US would have required more capital per worker to exports commodities than imports. Even though he was surprised to discover that US exports were 30% less capital intensive than Exports.

Obviously he was criticized by many economists, complained that 1947 was not the best year to analyze this theory due to post war reorganization US economy.

Few years later Leonntief retested the theory analysing this time the input ad output of US economy in 1951 within 192 industries, even though He made few changes he found out that US imports were 6% more capital intensive than Exports.

(http://www.econ.iastate.edu/classes/econ355/choi/leo.htm)

Of course various explanations of this paradox, usally know as the Leontief Paradox, have been attempted, Few of them are explained below:

* It could be that there is a demand bias, in which case the USA would consume more capital-intensive products than other countries

* There could be a so called Factor-intensity reversal, in which case the production of manufactures might be more capital intensive in the rest of the world while the production of food is more capital intensive in USA, making it impossible to estimate the foreign factor intensities using US data as done by Leontief.

* Jaroslav Vanek explanation, which it is thought to be the most important. Vanek argued that the 2 x 2 x 2 framework is too restrictive and it should be distinguished between more types of goods and more factors of production. Theoretical work by Vanek showed that in a more general setting a weaker version of the Heckscher-Ohlin result holds; that is a country tends to export goods and services which on average make intensive use of the abundant factors of production.

International trade in UK

UK offers a productive and a stable environment for business. UK is the world's largest trading entity in the European Union, in fact the companies based in the UK have better opportunity to do business in the international marketplace

The UK thanks to its friendly environment, the economic and political stability, the strong Research and Development environment has a compelling business offer in fact it is an investment destination for several industries and they act towards a global expansion.

(https://www.uktradeinvest.gov.uk/ukti/appmanager/ukti/countries)

The UK business environment is consistently recognised as being amongst the best in the world.

UK has a strong institutions and the Government always works to improve and make new regulations in order to reduce problems on the business, in fact this year the Government will reduce the burden of regulation of 25% by the end of the 2010.

The UK trade and Investment's role is very much proactive, it facilitates investment overseas, giving in the UK the chance to domestic business to expand around the globe.

UK Government helps companies, entities to expand internationally through an international business development organisation, bringing together business specialists and team supports around all the British Embassies around the globe.

(http://www.ukinvest.gov.uk:80/Regulation/en-GB-list.)

Import and Export

UK FOREIGN TRADE

The UK Economy is the sixth in the world in terms of export of commodities and services and also it does not stand far behind the US in terms of foreign investments.

Thanks to the EU the developing countries like the UK are opening new streets in overseas investments in order to earn huge financial gains and be present in several products.

The UK economy is the fourth one in the world in terms of import's volume and the main trading partners are European Union for more than 50%, United States, Middle East, Asia, Africa, Australia, Latin America.

I believe The UK economy applies The Heckscher Ohlin theory which explains the trade of good and services between countries.

UK as regulation has to respect the availability of the factors of production therefore can only trades with countries specialised in particular products in order to import and export different products into the Country; this will help the domestic economic growth and a worldwide presence of several products and services.

By doing so the UK can trade with other countries increasing their incomes.

The UK also considers the factor of production giving the right balance in different proportion depends on the country that it trades with.

The trade deficit of the UK Economy in goods and services has reduced by a smaller margin as of the third quarter of 2006.

(http://www.economywatch.com/world_economy/united-kingdom/export-import.html)

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