Leontief Paradox | Wassily Leontief | Heckscher-Ohlin Theory | Theories of International Trade
In International economics, “The Heckscher-Ohlin theory” is considered to be one of the most influential theoretical concepts. Since the theory makes a few simplifying assumptions, it is preferred over Ricardo’s Theory by most economists. The theory has been subjected to many empirical tests because of its influence on the scenario of international trade. There are many tests that raised questions regarding the validity of the Heckscher-Ohlin theory(H-O Theory) during the famous study that was published in 1953 by a Noble Prize winner in economics (1973), “Wassily Leontief”.
Leontief postulated that as compared to other countries in the world the United States does have a sufficient amount of capital. Then as per the H-O Theory, United States would labor-intensive goods and export capital-intensive goods. But looking at the trade data of import and export of the United States, the result seems to deviate from that the theory actually predicted. Wassily Leontief found out that the export seems to be less capital intensive than the imports. Since the result sounds variance with what the theory actually predicted, it is regarded popularly as Leontief Paradox.
The economists were not sure why they observe the Leontief paradox. Maybe the United States uses innovative technologies for producing goods and services that might hold a special advantage for the country. These types of products tend to be less capital intensive than the products whose technology has still time to mature and become suitable for mass production. This might be the reason why the United States is exporting goods that use a high level of skilled labor and innovative entrepreneurship and importing high capital intensive products (manufacturing products that require huge capital).
There are many empirical studies analyzing the data of many countries confirmed that in many countries there is actually the existence of Leontief Paradox. Economists used to rely on the theoretical grounds of H-O Theory which left them in a big confusion as the theoretical concepts looked poor for predicting the patterns of international trade in the real world.
Many economists realized that Ricardo’s theory of comparative advantage seems to be more reliable as compared to H-O Theory in predicting the various trade patterns with accuracy. Therefore, economists feel the best solution to the confusion is following back the Ricardian model of comparative advantage which believes that country should specialize in the production of those goods that it can produce more efficiently and should buy the goods that it produces less efficient as compared to other countries.
It is not because of the favorable and non-favorable factor endowments regarding the manufacturing of the aircraft and textiles, the United States is involved in exporting commercial aircraft and importing textiles. It is actually because the country is relatively more efficient to produce aircraft as compared to the textiles.
H-O Theory of international trade holds a key assumption that every country has the same technology. Usage and integration of technologies across the countries are different. The differences in the level of technology integrated by the various nations may lead to productivity differences which in turn, drives patterns in international trade. For example, In the 1970s and 1980s, the success of Japan in exporting automobiles was based not just on the relative abundance of capital, but also on its development of innovative manufacturing technology. This enabled the country to achieve a high level of productivity in the production of automobiles than the countries having sufficient capital.
The theoretical explanation may be correct as per the empirical study that been recently carried out. As per the new research, if the technology differences across the nations are controlled than the country will indeed export those goods that make intensive use of locally abundant factors while importing those goods that make intensive use of locally scarce factors. Heckscher-Ohlin (H-O Theory) seems to gain predictive power after accounting for the impact of technology on the productivity of the goods and services.