Session

H-O THEOREM
A RELATIVELY CAPITAL-RICH COUNTRY WILL
EXPORT THE RELATIVELY CAPITAL-INTENSIVE
COMMODITY AND VICE-VERSA.

Let Home is relatively Labour-Rich, i.e., ( L K ) > ( L* K * )

Let good-1 be relatively labour-intensive

According HO Theorem:

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 Leontief Paradox

Before input-output analysis was invented, there was no
method to test the HOS proposition empirically.

Leontief used this technique to analyze US-UK trade in

1953
1953.

To perform the test, Leontief used the 1947 input-output

table of the US economy.

W. Leontief got the Nobel Prize in 1973 for his

contribution to the input-output analysis.

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 Leontief Paradox

He aggregated industries into 50 sectors.

38 industries produced commodities that were traded in

the international markets. The remaining 12 sectors were
created for accounting identities and non-traded goods.

He also aggregated factors into two categories – labor and

capital.

He then estimated the capital and labor requirements to

produce 1 million dollars' worth of typical exportable and
importable bundles in 1947 prices.
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 Leontief Paradox
a KX = 2 .550780 a LX = 182 .313
a KM = 3 .091339 a LM = 170 .114

Leontief concluded that the US (the most capital abundant
country in the world by any criterion) exported labor-
intensive commodities and imported capital- intensive
commodities.

Leontief discovered that US imports were 30% more

capital-intensive than US exports.

This is known as the Leontief Paradox.

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 Criticism and Supports

Swerling (1953) complained that 1947 was not a correct
choice of year as both UK and US did not recover
completely from the ravages of the Second World War
1939-45.

Leontief (1956) repeated the test for US imports and

exports which prevailed in 1951.
1951 In his second study,
Leontief aggregated industries into 192 industries.

He found that US imports were still more capital-intensive

than US exports. US imports were 6% more capital-
intensive

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 Criticism and Supports

Robert Baldwin (1971) used the 1962 US trade data and
found that US imports were 27% more capital-intensive
than US exports. The paradox continued.

Edward Leamer (1980)

1980 questioned Leontief's original
methodology on the grounds of real exchange rate theory,
but acknowledged the existence of the US paradox for years
other than 1947.
1947

Kwok & Yu (2005) used an updated methodology to

conclude that the paradox still prevails in other developed
nations though not for the US economy.

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 Explanations

First explanation of LP was put forward using the concept
of taste bias – a strong taste bias for capital-intensive good
in the US resulted in the invalidation of the HOS theorem.

Critique: then such taste bias would be invalidating the

HOS pattern of trade for both the US and the UK.

Second explanation: Set forward by Leontief himself! US

labour was much more efficient compared to ROW. In a
relative sense, then, US could have been Labour-Abundant.

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 Explanations

Diab(1956) and Vanek (1959) argued that considering
only physical capital and labour is the root of the paradox.
They suggested inclusion of at least one more factor –
natural resources.

Vanek included natural resources and recalculated to

establish that US imports at 1947 were more bent towards
commodities with high content of natural resources and
concluded that in that scenario HOS is valid.

Human capital (skilled labour).

Balance-of-payment approch (Casas and Choi, 1984).

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 Explanations

FIR: Minhas (1962) found FIR to be prevalent.

Case where the same commodity is L-intensive in the L-

Rich country and the K-intensive in the Capital-Rich
country.

FIR is more likely to happen if the difference in EoS of L for

K in the production of two commodities is very high or
substantial.

Under FIR both HO and FPE do not hold.

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 FIR

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