The HeckscherOhlin Model Features Flaws and Fixes I

  • Slides: 58
Download presentation
The Heckscher-Ohlin Model: Features, Flaws, and Fixes I: What's the H-O Model Like? Alan

The Heckscher-Ohlin Model: Features, Flaws, and Fixes I: What's the H-O Model Like? Alan V. Deardorff University of Michigan Nottingham I

Themes of the 3 Lectures Ø The HO Model is largely well behaved in

Themes of the 3 Lectures Ø The HO Model is largely well behaved in 2 dimensions, even when you include trade costs • In higher dimensions, it is not so well behaved, especially when you include trade costs • Various modifications and extensions of the HO model offer some promise of making it behave better Nottingham I 2

Outline of Lecture I • Overview of the H-O Model • The 2× 2

Outline of Lecture I • Overview of the H-O Model • The 2× 2 Model – Without trade costs – With trade costs • The 2× 2× 2 Model • Conclusions from the 2× 2(× 2) Model Nottingham I 3

H-O Overview • The Heckscher-Ohlin (H-O) Model Assumptions – Homogeneous goods and factors –

H-O Overview • The Heckscher-Ohlin (H-O) Model Assumptions – Homogeneous goods and factors – Perfectly competitive market equilibrium throughout (goods and factors) – Production functions • Constant returns to scale • Non-joint – Factors • Perfectly mobile across industries • Perfectly immobile across countries – Countries differ in factor endowments – Industries differ in factor intensities Nottingham I 4

H-O Overview • The Heckscher-Ohlin (H-O) Model Implications – Countries export goods that use

H-O Overview • The Heckscher-Ohlin (H-O) Model Implications – Countries export goods that use intensively their abundant factors (H-O Thm) – Trade draws factor prices closer together across countries, becoming equal in certain circumstances (FPE Thm) – Trade changes real factor prices (S-S Thm) • Benefiting owners of abundant factors • Hurting owners of scarce factors – Rybczynski Thm (output effects of factor accumulation) Nottingham I 5

The Textbook 2× 2 H-O Model • • • Goods X, Y Factors K,

The Textbook 2× 2 H-O Model • • • Goods X, Y Factors K, L X is K-intensive Goods are final goods Trade is – Free and frictionless, or – Subject to simple, constant trade costs per unit (perhaps “iceberg”) Nottingham I 6

The Textbook 2× 2 H-O Model • Analysis: Expanded Lerner Diagram shows – Production

The Textbook 2× 2 H-O Model • Analysis: Expanded Lerner Diagram shows – Production – Factor allocations – Factor Prices – Trade • Thus for given – Goods prices – Factor endowments Nottingham I – Full solution for small open economy – Dependence on prices for large economy 7

Lerner Diagram 1/w. K 0 X=1/P X 0 K 0 P Y=1/ Y 1/w.

Lerner Diagram 1/w. K 0 X=1/P X 0 K 0 P Y=1/ Y 1/w. L 0 Nottingham I L 8

Lerner Diagram 1/w. K 0 X 0 E 0 X=1/P X 0 K Y

Lerner Diagram 1/w. K 0 X 0 E 0 X=1/P X 0 K Y 0 0 P Y=1/ Y 1/w. L 0 Nottingham I L 9

Lerner Diagram Export 1/w. K 0 X=1/P X 0 K E 0 X 0

Lerner Diagram Export 1/w. K 0 X=1/P X 0 K E 0 X 0 EC = E W XC YC Y 0 0 P Y=1/ Y Import 1/w. L 0 Nottingham I L 10

The Textbook 2× 2 H-O Model • Behavior – If Endowments inside Diversification Cone

The Textbook 2× 2 H-O Model • Behavior – If Endowments inside Diversification Cone • Both goods produced • Factor prices independent of endowments – If Endowments outside Diversification Cone • One good produced • Factor prices depend on endowments Nottingham I 11

The Textbook 2× 2 H-O Model • Sensitivity – All variables (outputs, trade, factor

The Textbook 2× 2 H-O Model • Sensitivity – All variables (outputs, trade, factor prices) are uniquely determined and depend smoothly on • Endowments • Prices – Adding trade costs vis a single other country • Creates range of world prices for which country does not trade • Outside that range, all variables depend smoothly on trade costs Nottingham I 12

The Textbook 2× 2 H-O Model • Summary – With free and frictionless trade:

The Textbook 2× 2 H-O Model • Summary – With free and frictionless trade: Nottingham I 13

The Textbook 2× 2 H-O Model • Summary – With iceberg trade costs, t:

The Textbook 2× 2 H-O Model • Summary – With iceberg trade costs, t: Nottingham I 14

Effects of Increasing Capital Endowment, EK K 1/w. K 0 X=1/P X 0 EK

Effects of Increasing Capital Endowment, EK K 1/w. K 0 X=1/P X 0 EK cone 0 P Y=1/ Y 1/w. L 0 Nottingham I L 15

Effects of Increasing EK SX SX Rybczynski Thm: SX/EK, rises with EK EK cone

Effects of Increasing EK SX SX Rybczynski Thm: SX/EK, rises with EK EK cone Nottingham I 16

Effects of Increasing EK SY SY Rybczynski Thm: SY Falls with EK EK cone

Effects of Increasing EK SY SY Rybczynski Thm: SY Falls with EK EK cone Nottingham I 17

Effects of Increasing EK DX , D Y DX DY EK cone Nottingham I

Effects of Increasing EK DX , D Y DX DY EK cone Nottingham I 18

Effects of Increasing EK TX, T Y TX EK TY cone Nottingham I 19

Effects of Increasing EK TX, T Y TX EK TY cone Nottingham I 19

Effects of Increasing EK w. K 0 w. K EK w. L w L

Effects of Increasing EK w. K 0 w. K EK w. L w L 0 EK cone Nottingham I 20

Effects of Increasing Labor Endowment, EL 1/w. K 0 X=1/P X 0 K 0

Effects of Increasing Labor Endowment, EL 1/w. K 0 X=1/P X 0 K 0 P Y=1/ Y 1/w. L 0 Nottingham I Effects are mirror image of increasing EK EL L 21

Effects of Increasing Price of X, PX 1/w. K 0 X=1/P X 0 K

Effects of Increasing Price of X, PX 1/w. K 0 X=1/P X 0 K 0 P Y=1/ Y 1/w. L 0 Nottingham I L 22

Effects of Increasing Price of X, PX 1/w. K 0 X=1/P X 0 K

Effects of Increasing Price of X, PX 1/w. K 0 X=1/P X 0 K 0 P Y=1/ Y 1/w. L 0 Nottingham I L 23

Effects of Increasing Price of X, PX 1/w. K 0 X=1/P X 0 K

Effects of Increasing Price of X, PX 1/w. K 0 X=1/P X 0 K 0 P Y=1/ Y 1/w. L 0 Nottingham I L 24

Effects of Increasing Price of X, PX SX SX (cone) Nottingham I PX 25

Effects of Increasing Price of X, PX SX SX (cone) Nottingham I PX 25

Effects of Increasing Price of X, PX SY SY (cone) Nottingham I PX 26

Effects of Increasing Price of X, PX SY SY (cone) Nottingham I PX 26

Effects of Increasing Price of X, PX DX , D Y DY DX (cone)

Effects of Increasing Price of X, PX DX , D Y DY DX (cone) Nottingham I PX 27

Effects of Increasing Price of X, PX TX, T Y TX PX TY (cone)

Effects of Increasing Price of X, PX TX, T Y TX PX TY (cone) Nottingham I 28

Effects of Increasing Price of X, PX w. K Stolper-Samuelson Thm: w. K/PX, w.

Effects of Increasing Price of X, PX w. K Stolper-Samuelson Thm: w. K/PX, w. K/PY rise with PX (cone) Nottingham I PX 29

Effects of Increasing Price of X, PX Stolper-Samuelson Thm: w. L/PX, w. L/PY fall

Effects of Increasing Price of X, PX Stolper-Samuelson Thm: w. L/PX, w. L/PY fall with PX w. L (cone) Nottingham I PX 30

Effects of Increasing Price of Y, PY • Effects are mirror image of increasing

Effects of Increasing Price of Y, PY • Effects are mirror image of increasing PX Nottingham I 31

Effects of Presence of Trade Costs • Assume iceberg trade cost t− 1>0, equals

Effects of Presence of Trade Costs • Assume iceberg trade cost t− 1>0, equals fraction of each good that disappears in transit to world market (must ship t for 1 to arrive) • Implication for domestic prices if world prices are P X w, P Y w: – If country exports X: PX=PXw/t; PY=t. PYw – If country exports Y: PY=PYw/t; PX=t. PXw – If country does not trade: (PXw/PYw)/t 2 ≤ PX/PY ≤ t 2(PXw/PYw) Nottingham I 32

Presence of Trade Costs 1/w. Kw X=1/PXw K EC Y=1/PYw 1/w. Lw Nottingham I

Presence of Trade Costs 1/w. Kw X=1/PXw K EC Y=1/PYw 1/w. Lw Nottingham I L 33

Presence of Trade Costs 1/w. Kw X=1/PXw K If country exports X …which it

Presence of Trade Costs 1/w. Kw X=1/PXw K If country exports X …which it will if endowment is above this line ECX EC Y=1/PYw 1/w. Lw Nottingham I L 34

Presence of Trade Costs 1/w. Kw X=1/PXw K EC ECY If country exports Y

Presence of Trade Costs 1/w. Kw X=1/PXw K EC ECY If country exports Y …which it will if endowment is below this line Y=1/PYw 1/w. Lw Nottingham I L 35

Presence of Trade Costs If country exports X K 1/w. Kw X=1/PXw autarky ECX

Presence of Trade Costs If country exports X K 1/w. Kw X=1/PXw autarky ECX EC ECY If country exports Y Y=1/PYw 1/w. Lw Nottingham I L 36

Effects of Increasing EK in Presence of Trade Costs If country exports X K

Effects of Increasing EK in Presence of Trade Costs If country exports X K 1/w. Kw X=1/PXw autarky ECX EC ECY If country exports Y Y=1/PYw 1/w. Lw Nottingham I L 37

Effects of Increasing EK in Presence of Trade Costs PX/PY autarky t 2 PXw/PYwt

Effects of Increasing EK in Presence of Trade Costs PX/PY autarky t 2 PXw/PYwt 2 Y-export X-export cone Nottingham cone I EK 38

Effects of Increasing EK in Presence of Trade Costs SX autarky Y-export X-export cone

Effects of Increasing EK in Presence of Trade Costs SX autarky Y-export X-export cone Nottingham cone I EK 39

Effects of Increasing EK in Presence of Trade Costs SY autarky Y-export X-export cone

Effects of Increasing EK in Presence of Trade Costs SY autarky Y-export X-export cone Nottingham cone I EK 40

Effects of Increasing EK in Presence of Trade Costs TX, T Y autarky TX

Effects of Increasing EK in Presence of Trade Costs TX, T Y autarky TX EK TY Y-export X-export cone Nottingham cone I 41

Effects of Increasing EK in Presence of Trade Costs w. K autarky w. K

Effects of Increasing EK in Presence of Trade Costs w. K autarky w. K EK w. L Y-export X-export cone Nottingham cone I EK 42

Effects of Increasing PXw/PYw in Presence of Trade Costs SX, SY autarky SX (ρA

Effects of Increasing PXw/PYw in Presence of Trade Costs SX, SY autarky SX (ρA =PXA/PYA = autarky price) ρA Y-export X-export cone Nottingham cone I SY ρw =PXw/PYw 43

Effects of Increasing PXw/PYw in Presence of Trade Costs DX, DY autarky ρA Y-export

Effects of Increasing PXw/PYw in Presence of Trade Costs DX, DY autarky ρA Y-export X-export cone Nottingham cone I DY DX ρw =PXw/PYw 44

Effects of Increasing PXw/PYw in Presence of Trade Costs TX, TY autarky TX ρA

Effects of Increasing PXw/PYw in Presence of Trade Costs TX, TY autarky TX ρA ρw =PXw/PYw TY Y-export X-export cone Nottingham cone I 45

Effects of Increasing PXw/PYw in Presence of Trade Costs w. K/PY autarky w. K/PY

Effects of Increasing PXw/PYw in Presence of Trade Costs w. K/PY autarky w. K/PY ρA Y-export X-export cone Nottingham cone I ρw =PXw/PYw 46

Effects of Increasing PXw/PYw in Presence of Trade Costs w. L/PY autarky w. L/PY

Effects of Increasing PXw/PYw in Presence of Trade Costs w. L/PY autarky w. L/PY ρA Y-export X-export cone Nottingham cone I ρw =PXw/PYw 47

Effects of Increasing Trade Costs • As trade cost, t, rises from zero, Y-export

Effects of Increasing Trade Costs • As trade cost, t, rises from zero, Y-export cone and the X-export cone move further apart, and the “autarky” range of factor endowments and world prices gets larger • For any given endowment and world prices, a rise in t reduces the volume of trade and moves other variables in the direction of their autarky values. Nottingham I 48

Effects of Increasing Trade Costs • Example: – Consider a country whose factor endowments

Effects of Increasing Trade Costs • Example: – Consider a country whose factor endowments have it completely specialized in good X at world prices Nottingham I 49

Effects of Increasing Trade Costs: Example SX, SY autarky SX SY X-export cone. Nottingham

Effects of Increasing Trade Costs: Example SX, SY autarky SX SY X-export cone. Nottingham I t 50

The World Market: The Textbook 2× 2× 2 H-O Model • To model the

The World Market: The Textbook 2× 2× 2 H-O Model • To model the world economy, add a second country (country “*”) • Solve for world (relative) price that clears the world market Nottingham I 51

The World Market: The Textbook 2× 2× 2 H-O Model • Results with analogous

The World Market: The Textbook 2× 2× 2 H-O Model • Results with analogous expressions for the other country Nottingham I 52

The World Market: The Textbook 2× 2× 2 H-O Model • Depictions of world

The World Market: The Textbook 2× 2× 2 H-O Model • Depictions of world equilibrium – Offer curves (Meade) – Integrated-world-economy diagram (Dixit-Norman) – Sufficient (but not elegant) to use supply and demand of just one of the goods Nottingham I 53

World Equilibrium TX, −TX* TX (PX/PY)w PX/PY −TX* (cone)* Nottingham I 54

World Equilibrium TX, −TX* TX (PX/PY)w PX/PY −TX* (cone)* Nottingham I 54

Conclusions from the 2× 2(× 2) H-O Model • Equilibria are well defined •

Conclusions from the 2× 2(× 2) H-O Model • Equilibria are well defined • Equilibrium quantities are unique • Equilibrium prices are unique up to a numeraire Nottingham I 55

Conclusions from the 2× 2(× 2) H-O Model • Includes three types of equilibria

Conclusions from the 2× 2(× 2) H-O Model • Includes three types of equilibria – Autarky (when there are trade costs) – Diversified – Specialized • Determinants of equilibrium type are mostly clear • Several relationships between variables depend importantly on type of equilibrium Nottingham I 56

Conclusions from the 2× 2(× 2) H-O Model • Classic “Theorems” are clear and

Conclusions from the 2× 2(× 2) H-O Model • Classic “Theorems” are clear and precise • Countries specialize, but only if endowment differences are large • Prices and quantities vary continuously with exogenous changes in – Endowments – Trade costs • In particular, trade responds sensibly to – Prices and – Trade costs Nottingham I 57

What’s Next? • My point in the next lecture will be that some of

What’s Next? • My point in the next lecture will be that some of these attractive properties are lost in higher dimensions – i. e. , especially when there are more than 2 of goods and countries Nottingham I 58