Sarah Mae Banaga

OMGT-2B

HECKSCHER – OHLIN THEORY

This theory explains why two countries trade goods and services with each other. According to
this theory:

It predicts:

 In order to export goods, local factors are intensively used.

 In order to import goods that use factors that are scarce locally, import goods that make
intensive use of those factors

According to the Heckscher-Ohlin theory, a country produces goods that it is particularly suited
for producing. When capital is abundant and workers are few, countries should focus on
producing goods that primarily require capital. Contrary to this, countries with an abundance of
workers and a scarcity of capital should specialize in labor-intensive products.

 The Heckscher-Ohlin theory is a prediction about how countries will trade with each
other. According to this theory, countries will export goods that use the resources they
have a lot of (abundant resources) and import goods that use the resources they don't
have much of (scarce resources).
 For example, if Country A has a lot of land but not many skilled workers, it might export
agricultural products like wheat or corn which require lots of land but not as many
skilled workers. On the other hand, if Country B has lots of skilled workers but not much
land, it might import machinery or technology which requires more skilled labor than
land.
 this theory suggests that countries will specialize in producing certain goods based on
their available resources and then trade those goods with other countries to obtain the
things they need but can't produce themselves.

Basic assumptions of Heckscher Ohlin

 There are two Countries involved.
 Each country has two factors – Labor and Capital.
 Each country produces two goods (Labor intensive and Capital Intensive).
 There is perfect competition in both commodity and factor markets.
 All production functions are homogeneous of the first degree i.e. production function is
subject to constant returns to scale.
 Perfect mobility of factors within a country but immobility between the 2 countries.
 Two countries differ in factor supply.
 Each commodity differs in factor intensity.
  The production function remains the same in different countries for the same commodity.
For example, If commodity A requires more capital in one country then the same is the
case in another country.
 There is full employment of resources in both countries and demand are identical in both
countries.
 Trade is free i.e. there are no trade restrictions in the form of tariffs or non-tariff barriers.
 There are no transportation costs

The Heckscher-Ohlin theory is a way of understanding how countries trade with each
other. It makes some basic assumptions to simplify things.
 there are two countries involved and each country has two factors - labor and
capital.
 each country produces two types of goods - ones that require more labor to
produce (like clothing) and ones that require more capital (like machinery).
 both commodity and factor markets operate under perfect competition.
 all production functions have constant returns to scale which means if you double
the inputs of labor or capital used in producing something, output will also
double.
 factors can move freely within a country but cannot move between the two
countries.
 the two countries differ in their supply of factors; one might have more abundant
labor while another might have more abundant capital.
 different goods require different amounts of resources, such as labor or capital, to
produce. For example, making cars might need more machines and technology
than growing crops.
 the production process for each good is the same in all countries. So if it takes a
lot of capital to make cars in one country, it will take a lot of capital to make them
in another country too.
 both countries have full employment and identical demand for goods. This means
there are no unemployed workers or unused factories sitting around waiting for
work.
 there are no restrictions on trade between the two countries - like tariffs or quotas
- so they can freely buy and sell whatever they want without any extra costs.
 there are no transportation costs involved in trading between the two countries.
So if you're buying something from another country, you don't have to pay extra
for shipping it over.

These assumptions help us understand why certain goods are produced in certain places and
why they are traded between different countries based on their resource availability and
efficiency at producing those goods.