HECKSHER OHLIN THEORY

  The Hecksher Ohlin model is a general equilibrium mathematical model of international trade developed by Eli Hecksher and Bertil Ohlin. It builds on David Ricardo‘s theory of comparative advantage. By predicting pattern of commerce and production based on factor endowments of a trading region.

     Ricardian theory of comparative advantage has trade ultimately motivated by differences in labour productivity using different technologies. Hecksher Ohlin did not require production technologies to vary between countries; Hecksher Ohlin model has identical production technology anywhere. Ricardo considered single factors of production and would not have been able to produce comparative advantage without technological differences between countries. Hecksher Ohlin model removed technology variations but introduced variable capital endowments.

           The H-O model assumed that the only difference between countries was the relative abundances of labor and capital. The Heckscher–Ohlin model contained two countries, and had two commodities that could be produced. Since there are two (homogeneous) factors of production this model is sometimes called the "2×2×2 model".

The model essentially says that countries will export products that use their abundant and cheap factors of production and import factors that use the countries scares factors.

ASSUMPTIONS

• There are two nations, two commodities, two factors of production.

• Both nations use same technology in production.

• Commodity X is labour intensive and commodity Y is capital intensive in both nations.

• Both commodities are produced under constant returns to scale.

• Tastes are equal in both nations.

• There is perfect competition in both commodities and factor markets in both nations.

• There is incomplete specialization in production in both nations.

• There is perfect factor mobility with in each nation but there is no international factor mobility.

• There are no transportation costs, tariffs, or other obstructions to the flow of international trade.

• All resources are fully employed in both nations.

• International trade between two nations is balanced.

• Relative endowments of the factors of production determine a country’s comparative advantage.

       Nations have access to and use the same general production techniques, factor price were same in both nations, producers in both nations would use exactly the same amount of labour and capital in the production of both commodity. Producers will use more of the relatively cheaper factor in the nation to reduce cost of production.

           K/L ratio is relatively higher in commodity Y lower in commodity X and L/K ratio is higher for X lower for Y in both nations. Constant returns to scale prevail in the economy, which means that if we increase the amount of labour and capital. It leads to an increase in output in the same proportion. There are no other special products will not be produced, even if there is a free trade in the economy, they continue to produce both commodities in both nations.

       There is Capital and Labor mobility within countries capital and labor can be reinvested and re-employed to produce different outputs. Like the comparative advantage argument of Ricardo, this is assumed to happen costlessly. If the two production technologies are the arable industry and the fishing industry it is assumed that farmers can shift to work as fishermen with no cost, and vice versa.

      Relative endowments of factors of production determine a countries comparative advantage. Countries have comparative advantage in those goods for which the required factors of production are relatively abundant locally. This is because the profitability of goods is determined by input costs. Goods that require inputs that are locally abundant will be cheaper to produce than those goods that require inputs that are locally scares.

      The Ricardian model of comparative advantage has trade ultimately motivated by differences in labour productivity using different technologies. Heckscher and Ohlin didn't require production technology to vary between countries, so the H-O model has identical production technology everywhere. Ricardo considered a single factor of production and would not have been able to produce comparative advantage without technological differences between countries. The H-O model removed technology variations but introduced variable capital endowments, recreating endogenously the inter-country variation of labour productivity that Ricardo had imposed exogenously. With international variations in the capital endowment and goods requiring different factor proportions, Ricardo's comparative advantage emerges as a profit-maximizing solution of capitalist's choices from within the model's equations. The decision capital owners are faced with is between investments in differing production technologies: The H-O model assumes capital is privately held.