Question

(A). In what way, if any, does the Heckscher-Ohlin theory lead one to conclude that trade in goods is a substitute for international movements in the factors of production?

(B). Two of the strong assumptions underlying the Heckscher-Ohlin theory are zero transportation costs and perfect competition. Explain how the absence of each might alter the conclusions reached in the Heckscher-Ohlin theory.

Answer 1

(A). According to Heckscher-Ohlin theory, there is perfect factor mobility in the nation but not internationally. Moreover, there are two nations endowed with two factors of production labour(L) and Capital(k) though their quantities differ. These two nations produces two commodities X and Y which requires the use of Land k though in different quantities.

Now, the country which is more endowed with L will produce L-intensive commodity and vice versa. Countries will exchange the goods X and Y as it will be profitable for them.

After production, the countries can exchange X for Y as per their convinience. Since, factor mobility is not possible internationally, the good which requires more of L will be produced by L-abundant country and vice versa. From this we can say that, as factor mobility is not possible, exchange of goods is doing the job.

(B) If there is transportation cost, then specialization in the production would carry on untill difference between relative and absolute price of the commodity is less than or equal to the cost of transportation of the goods exchanged.

If there is no perfect competition, it implies that both nations are capable enough to affect the price of the commodity in which it specializes. Thus, creating a situation of trade war between them.