International-Business-Dr-R-Chandran-E-book

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International Business- Dr. R. Chandran
intensive goods ‘X’ than capital intensive goods ‘Y’ and thus has an
advantage in the production of ‘X’. The production possibility curve AA1,
of country A shows relative abundance of capital while the production
possibility curve BB1 of country B shows relative abundance of labour.
Thus country A will have a bias towards the production of capital intensive
goods ‘Y’ while country B will be more inclined to produce labour intensive
goods ‘X’.
The nature of this bias is illustrated in the diagram. If both countries produce
both the goods in the same proportion, it will be represented by the ray OR.
The production of country A will be represented by the point S while that of
country B will be represented by point S’ on their respective production
possibility curves. The slope of country A’s production possibility curve at
S’ is steeper than the tangent P1P1 than the slope of the production
possibility curve of country B at point S shown by the tangent P2P2. This
implied that good Y is cheaper in country A than in country B and that good
X is cheaper in country B than in country A.
As it is clear from the respective price lines P1P1 and P2P2, the operating
cost of expanding production of goods Y is lower in country A than country
B and vice-versa for good X.
This shows that the capital rich country A has a bias in favour of capital
intensive goods Y and the labour abundant country B has a bias in favour of
prevailing Labour intensive goods X.
Comparison of Ricardian and Factor Endowment Trade Models
Ricardian Heckscher-Ohilin
One factor model (labour)
Two factor model
(labour and capital)
Comparative advantages on the basis
Comparative advantage is of production conditions along with
determined by the production the market demand pattern of goods,
condition alone and it leads to because the price determined the
export.
demand for goods may not always
lead to export
Classical theory of international
trade is totally different from internal
trade and hence requires a separate
theory to explain the causes the trade
Heckscher-Ohilin theory regards
international trade as arising from
differences in factor endowments and
deals with it specific to international
trade
Ricardian theory does not take factor More realistic theory as it is based on
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