Syllabus T. Y. B. A. Paper : IV advanced economic theory with effect from academic year 2010-11 in idol

 
THE MODEL 
 
1. Assumption: 
Technology available to both countries is the same. We 
assume there are two countries A & B and they produce two 
commodities textiles and steel each. Textiles is assumed to be a 
labour intensive commodity and steel a capital intensive one. If A is 
assumed to be a capital abundant country it would be normal to 
expect that A will produce more steel compared to B. Producers 
generally decide capital labour ratio depending on their prices. If 
capital is cheaper in country A they will employ more capital relative 
labour in production of both items. Capital labour ratio in a given 
commodity will be same as between two different countries only if 
factor price ratio happens to be the same also. 
2. In both countries production of steel requires more capital 
per unit of labour: 
The meaning of this assumption is that production function of 
a commodity does not differ much internationally. Different 
combinations of labour and capital may be viable to produce a 
given commodity but the optimum combination must be unique. 
When we think of two different commodities this ratio must be 
different as between them. Thus it is quite possible that steel 
requires more capital relative to labour due to its specific production 
function. Similarly textiles may use more labour relative to capital 
irrespective of the country one may be considering thus. 
T
T
T
T
K
Ks
>
L
Ls I
II
K
Ks
>
Ls
L
II
II
and
 
3. Factor endowment in each country is different: 
Suppose country one is endowed with more capital relative 
to labour and country two has more labour relative to capital. Then 
country one can be called a capital abundant country while country 
two is labour abundant. One thing which needs to the kept in mind 
is the fact that abundance or scarcity is never to be taken in 
absolute terms. A big population size does not mean a labour 
abundant country. Labour availability per unit of capital will decide 
labour abundance for a country. Abundance or scarcity is always a 
relative term i.e. in relation the other factor. 
To understand the H.O theorem a notion of production 
possibility curve is essential. In the following diagram we draw one 
production possibility curve. 

---