How Does Demand Reversal Invalidates the Theory of Hecksher-Ohlin Theorem

Topics: International trade, Export, Import Pages: 4 (1224 words) Published: September 19, 2010
The modern theory of international trade

Country A produces at point A, specializing in the production of steel, it consumes at point D, given the utility pattern represented by the indifference curve (IC a). This means that country A exports EA amount and import ED amount of steel. Therefore country A which is a capital surplus country is exporting labour intensive goods (cloth) and importing capital intensive goods (steel). This is in direct conflict with the HECKSCHER OHLIN prediction concerning the commodity structure of trade. Likewise, country B specializes in the production of cloth, but it consumes at point G in response to its utility pattern represented by the indifference (IC b). Therefore it exports BF amount of steel and imports FG amount of cloth. Once again we notice that country B, which is a labour surplus country exports capital intensive goods (steel) and imports labour intensive goods (cloth). The HECKSCHER OHLIN prediction is overturned. In this case, represented in figure 1.1 we have a situation of what is called demand reversal. Here not only the two biases-consumption and production are in the same direction but also the consumption bias more than offsets the production bias. Consumption point D lies to the left of production point A in country A and in country B the consumption point G lies to the right of production point B. When such a demand reversal takes place, the capital surplus country would export labour intensive goods. The HECKSCHER OHLIN theory would then be invalidated by the demand reversal Critical evaluation of the HECKSCHER OHLIN theorem

In the area of pure theory of international trade, the HECKSCHER OHLIN model occupies a very prestigious position. The very fact that many known Economists like Leontief, Walters, Minhas and others have tried to test the empirical validity of the HECKSCHER OHLIN theorem using econometric models, stands as a testimony of the prestige of the model. The...
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