Sources of Comparative

Advantages
• Classical economists simply accepted the fact that productivity
differences exist between countries.

• They made no concerted attempt to explain which commodities a

country would export or import.

• During the 20th century, international economists offered a number of

theories in an effort to explain why countries have differences in
productivity, the factor that determines comparative advantage and the
pattern of international Trade.
Technology

• Technological development can also provide a distinctive trade advantage. The relatively advanced
countries—particularly the United States, Japan, and those of western Europe—have been the
principal exporters of high-technology products such as computers and precision machinery.

• One important aspect of technology is that it can change rapidly.

• This is perhaps most obvious in the computer field, where productivity has increased and costs
have fallen sharply since the early 1960s.

• Such rapid changes present several challenges. For countries that are not in the front rank, it
raises the question of whether they should import high-technology products or attempt to enter the
circle of the most advanced nations.
• For the countries that have held the technological lead in the past, there is always the possibility that they
will be overtaken by newcomers.

• This occurred in the second half of the 20th century when Japan advanced technologically in its automobile
production to the point where it could challenge the automobile leadership of North America and Europe.

• Japan quickly became the world’s foremost producer of automobiles, and, by the early 21st century, Korean
automakers were following the Japanese example with the aggressive export of automobiles.

• Technological advances also strengthen global trade in a general sense: e-commerce (electronic
commerce), for example, reduced the impact of geographic distance by facilitating fast, efficient, real-time
ties between businesses and individuals around the world.

• Indeed, at the end of the 20th century, information technology, an industry that scarcely existed 20 years
earlier, exceeded the combined world trade in agriculture, automobiles, and textiles.
Factor endowments: the Heckscher-Ohlin theory

• The Heckscher-Ohlin theory focuses on the two most important factors of production, labour and
capital. Some countries are relatively well-endowed with capital; the typical worker has plenty of
machinery and equipment to assist with the work.

• In such countries, wage rates generally are high; as a result, the costs of producing labour-intensive
goods—such as textiles, sporting goods, and simple consumer electronics—tend to be more
expensive than in countries with plentiful labour and low wage rates.

• On the other hand, goods requiring much capital and only a little labour (automobiles and chemicals,
for example) tend to be relatively inexpensive in countries with plentiful and cheap capital.

• Thus, countries with abundant capital should generally be able to produce capital-intensive goods
relatively inexpensively, exporting them in order to pay for imports of labour-intensive goods.
• In the Heckscher-Ohlin theory it is not the absolute amount of capital that is important; rather, it is the amount of capital

per worker. A small country like Luxembourg has much less capital in total than India, but Luxembourg has more
capital per worker.

• Accordingly, the Heckscher-Ohlin theory predicts that Luxembourg will export capital-intensive products to India and

import labour-intensive products in return.

• Despite its plausibility the Heckscher-Ohlin theory is frequently at variance with the actual patterns of international

trade.

• As an explanation of what countries actually export and import, it is much less accurate than the more obvious and

straightforward natural resource theory.

• Leontief observed that the United States was relatively well-endowed with capital. According to the theory, therefore,

the United States should export capital-intensive goods and import labour-intensive ones.

• He found that the opposite was in fact the case: U.S. exports are generally more labour intensive than the type of

products that the United States imports. Because his findings were the opposite of those predicted by the theory, they are
known as the Leontief Paradox.
Economies of large-scale production
• Even if countries have quite similar climates and factor endowments,
they may still find it advantageous to trade. Indeed, economically
similar countries often carry on a large and thriving trade.
• The prosperous industrialized countries have become one another’s
best customers. A main reason for this situation lies in what is called
the economies of large-scale production.
• For many products, there are advantages in producing on a large scale;
costs become lower as more is produced.
• Thus, for example, automobiles can be made more cheaply in a factory
producing 100,000 units than in a small factory producing only 1,000
units. This means that countries have an incentive to specialize in
order to reduce costs. To sell a large volume of output, they may have
to look to export markets.
• The smaller the country, and the more limited its domestic market, the more
incentive it has to look to international trade as a way of gaining the
advantages of large-scale production.
• Thus, Luxembourg or Belgium has much more to gain, relatively, than the
United States. Indeed, the advantages of large-scale production were one of
the major sources of gain from the establishment of the
European Economic Community (EEC; ultimately replaced by the
European Union), which was formed for the purpose of providing free trade
between most western European countries.
• Even a large country such as the United States, however, can gain in some
cases by exporting in order to exploit the economies of production lines.
• For example, the Boeing Company has been able to produce airplanes more
efficiently and cheaply because it is able to sell large numbers of aircraft to
other countries. The importing countries also gain because they can buy
aircraft abroad at prices far lower than they would pay for domestically
produced equivalents.