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Heckscher-Ohlin

This article demonstrates the Heckscher-Ohlin (HO) result using Factor Price Equalization (FPE) and the Rybczynski theorem. It explains how trade equalizes prices and factor rewards, and how countries specialize in goods that make intensive use of their abundant factor.

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Heckscher-Ohlin

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  1. Heckscher-Ohlin To demonstrate the Heckscher-Ohlin (HO) result we will use some of the earlier results, in particular Factor Price Equalization (FPE) and the Rybczynski (Ryb) theorem. It is the of the four basic results that requires only identical homothetic preferences First, note that if 2 countries start to trade this equalizes the prices of the 2 final goods in the 2 countries. According to FPE under identical technologies and CRS this equalizes the rewards for the 2 inputs, the wage w for labor and the rental r for capital, in the 2 countries. That, in turn, implies that the capital-intensity with which the 2 goods X and Y are produced are identical in the 2 countries According to Ryb. the country with (rel.) more capital produces (rel.) more of the (rel.) capital-intensive good; say country A has more capital, less labor and good X is (rel.) more capital-intensive

  2. B Bp more capital less labor less labor more capital Ap Heckscher-Ohlin Here is the green ppf of country B, it produces at point Bp Y (lab int) Country A has more capital and less labor, so we can trace first the Capital and then the Labor Ryb-line to arrive at country A’s production point Ap Or we could take the other route and first trace the Labor and then the Capital Ryb-line The end result is obviously the same. 0 X (cap int)

  3. Bp Ap A Heckscher-Ohlin Through country A’s production point Ap we can also draw a ppf. Y (lab int) At the int. eq. trade prices for goods X and Y the income line is tangent for country A at Ap and for country B at Bp This is where the assumption of identical homothetic preferences comes in B Both countries consume somewhere along their own income line, however the ratio with which goods X and Y are consumed is the same 0 X (cap int)

  4. Ac Bc Ap Heckscher-Ohlin If we know country B’s consumption point Bc along its income line, extending a line from the origin through Bc determines country A’s consumption point Ac along its income line. Y (lab int) Naturally, to be an international equilibrium the trade triangles have to match (reciprocally) This can only occur if the consumption ratio is in between Apand Bp (as drawn) Bp 0 X (cap int)

  5. Ac Bc Ap Heckscher-Ohlin Since the consumption ratio is in between Apand Bp country B, which has relatively more labor than country A, exports good Y, which uses labor relatively intensively. Y (lab int) The reverse holds for country A (it has rel. more capital and exports good X which uses capital rel. intensively). Bp According to the HO result a country exports the good which makes intensive use of its abundant factor of production 0 X X (cap int)

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