Question

Countries that are willing to tolerate an unusually high quantity of labor relative to their supplies of other factors would tend to export “labor -intensive” goods. Discuss using the Hechscher-Ohlin (H.O.) model.

Answer 1

The Heckscher-Ohlin model is an economic theory that proposes that countries export what they can most efficiently and plentifully produce. Also referred to as the H-O model or 2x2x2 model, it's used to evaluate trade and, more specifically, the equilibrium of trade between two countries that have varying specialties and natural resources.

The model essentially states that international trade occurs because countries differ in their relative factor endowments and commodities differ in their relative factor intensities. Relative endowments of factors of production (land, labour and capital) determine a country’s comparative advantage. Countries have comparative advantages in those goods for which the required factors of production are relatively abundant and cheap locally. This is because the prices of goods are ultimately determined by the prices of their inputs. Goods that require inputs that are locally abundant will be cheaper to produce than those goods than require inputs that are locally scarce.

On the basis of relative factor endowments, countries may be categorized as capital abundant or labour abundant or land abundant countries. Similarly on the basis of relative factor intensities, goods may be grouped as capital intensive or labour intensive or land intensive goods. For example, a country where capital is abundant but labour is scarce will have comparative advantage in the production of capital intensive goods that require lots of capital but little labour. If capital is abundant, its price will be low.

As it is main factor used in the production of capital intensive goods, the price of these goods will also be low and thus attractive for both local consumption and export. Labour intensive goods, on the other hand, will be very expensive to produce since labour is scarce and its price is high. Therefore, the country will be better off importing those goods.

Thus, in its full development the H.O. theorem lends powerful support to traditional doctrine. It provides a full-fledged explanation of why production costs might differ from one country to another and it shows the possible causes of relative commodity cheapness.