Strengths of the Ricardian Model - Case Study Example

Proving the Validity of the Ricardian and Heckscher-Ohlin Theories Introduction The focuses on the explanation of the two very important theories, which are being used to explain the International trade taking place in the present world. As per the writer the trade that is taking place between the various countries of the world, has totally taken a different turn with the start of globalization and the opening of the worldwide markets. Indeed this has resulted in severe competition among the countries and there is no particular area that has been spared. With this context of globalization and the severe market competition between the different world economies in mind, the writer throws light on the importance of the comparative advantage, that surfaces as a main problem for the trade between the different world economies. It is stated that the factor of the comparative advantage is considered to be the most crucial aspect, which moulds the international trade. (Fedotovs 2010) Thus the writer emphasizes on the fact that comparative type of advantage that has come into play due to globalization, is presently the most important aspect for any country, from a practical as well as theoretical point of view. Many traditional theories as well as models, had been effectively formulated so as to explain the comparative advantage and these have ever since been scrutinized to bring out the evidences empirically. But it is an irony that all these theoretical models have only produced results, which were totally contradictory. Thus the writer attempts to generate empirical evidence by taking the case of Latvia, which is a small country and a member of the European Union. Through the analysis of the empirical evidence, the writer focuses on the present two basic concepts of the International Trade. The two very famous models are the Heckscher-Ohlin theorem of factor endowment and the Ricardian model, which explains the concept of comparative advantage. It has been an agreed fact in most of the Latvia’s trade reports which suggest that, this country very well adheres to the principles that are being laid down on the basis of the comparative advantage. (Fedotovs 2010) The greatest benefit that comes from the liberalization policy is that, it helps most of the countries in increasing the efficiency of the foreign trade. This efficiency is really possible, since the countries need to concentrate only on the sectors which they are strong in and concentrate mainly to strengthen those areas. In the case of Latvia this becomes a reality, since the application of the comparative advantage emphasized in the Ricardian model is very much possible. Indeed Latvia has been very successful in following such a trade policy, with respect to the foreign countries strictly abiding by the terms of the international trade. (Fedotovs 2010) Applying the Ricardian Model of Comparative Advantage to Latvia The Ricardian theory strongly believes that with respect to a particular product, any country in the present world due to globalization has got a very good comparative advantage, when compared to other countries if the opportunity cost that is incurred during the production of that good, among a group of goods is very less in that particular country. Thus this can very well be applied in the case of Latvia and is found to validate the Ricardian theories strength. (Fedotovs 2010) Strengths of Ricardian Model In fact Latvia had joined the European Union only seven years back and when it is compared with the other member states, it was having lesser productivity and it was not so economically developed. But the surprising thing was that, this country had a comparative advantage when the productivity ratio in the case of certain goods was compared, with the other member states. To have a very good advantage with respect to particular product, a country had to have a very high productivity ratio when compared to other countries, as per the Ricardian Model. In the case of Latvia it was very well found out that, timber was the export product that had a very high productivity ratio in comparison to the other member countries. This was found out by the Latvian exporters, who were very well searching for finding the area that they could concentrate upon, in order to get a very good exporting market. Timber proved to be the product that they were searching for, that gave a comparative advantage in the European markets. Following this the Latvian timber exports grew by leaps and bounds and its timber exports to other countries surged by more than 35%. Today Latvia’s export data when analyzed clearly indicates that, timber occupies more than half of the country’s exports. In the case of the other products like milk, meat and others, it was seen that production when compared to other European countries was far less. (Fedotovs 2010) Weakness of the Ricardian Model In case of certain goods like cement, the Ricardian theory has been contradicting its laid out principles. Conclusion But overall it can very well be concluded that, when the Ricardian model is applied to the products like timber, it is very successful in explaining the surge in the exports due to the comparative advantage that Latvia possesses, when compared to other countries. This proves the validity of this theory, though there are some discrepancies and exceptions attached to it. Heckscher-Ohlin theorem of factor endowment As per this theorem it states that, most countries will involve in the exporting of certain goods, whose production is more supported by the presence of factors, that the country is naturally endowed with. The factors that really play a very important role in the production of a certain product can very well be classified as the availability of land, availability of cheap labor and also the availability of very good capital. (Fedotovs 2010) Strengths of Heckscher-Ohlin theorem This determining factor comparison in the case of Latvia, very well proves that the country is very sparsely populated, when compared to the other member states. It is evident that when a country’s population is very less, then the availability and the flow of capital will also be far less. Hence these two factors prove to be disadvantageous, when Latvia is compared to the other European Union member states. But when it finally comes to the availability of land it is seen that, due to the sparse population of Latvia it has got a larger availability of vacant land. In turn this vacant land can be put to timber production, which can give the export edge to Latvia, in comparison with the other European Union countries. Thus the Hecksher Ohlin theorem also supports the fact that, Latvia would be very successful if it exploits its huge potential resource, which is available in the form of land and wood products. Weakness of Heckscher-Ohlin theorem In the case of countries like Sweden as well as Finland, which has got a lesser population density when compared to the Latvian population, they in turn indulge in importing the Latvian wood. This is in contradiction to the Heckscher-Ohlin theorem that had emphasized the fact that, a lesser population density will make a large area available for timber cultivation, which will strengthen and increase the wood exports of any country. But the countries of Sweden as well as Finland had turned out to be exceptions to this case. Conclusion Thus it can very well be concluded that, though the Hecksher - Ohlin theorem has been weak in certain areas and is unable to explain the exceptions, in the case of Latvia it has been quite successful to explain why there has been an increase in the timber exports. Limitations of both the Theories Both the above theories the Ricardian Model of Comparative Advantage and the Heckscher-Ohlin theorem are more successful, when they are applied to the countries that have substantial differences in their economic development, like in the case of the European Union countries and Latvia. When the above theories are applied in the case of Latvia and other countries that belong to the Baltic, then there arises many kinds of abnormalities in their trade patterns. This results in the contradictions of the proposed theories and limits its usage only to compare the trade between Latvia and the EU countries. (Fedotovs 2010) Writers Justifications regarding his own cautious conclusions The writer has been very cautious in his approach with respect to the conclusions that he very well draws from the study of the two theories, which have been proposed by the Ricardian Model of Comparative Advantage and the Heckscher-Ohlin theorem. The following are the points that discuss the various cases of the trade patterns of Latvia, in comparison with other countries. (Fedotovs 2010) 1) In the case of the trade that has been taking place between Latvia and the European Union countries it is seen that, both these theories have been quite successful in explaining the trade patterns, resulting in an increase in the volume of export of wood products. 2) The writer very well concludes that the Ricardian model regarding the attribution of the principle of comparative advantage, has been quite successful in the case of the trade between Latvia and the other European Union countries. 3) Since there is an existence of a very large difference in the economic development between the European Union countries and Latvia, the Heckscher-Ohlin theorem can also be very successfully applied in this case. 4) Though there exists some kind of exceptions when applying both these theories to Latvia as well as other EU countries, still it can very well be applied to explain the trade patterns. 5) The major setback for both these theories occurs, when they are applied to the study of the trade patterns between Latvia and other Baltic countries. 6) It is seen that there arises a pattern wherein the trade and the exports of Latvia to the Baltic countries increases after the year 2000, while at the same time the exports to the EU countries show a declining trend. 7) It is also seen that the level of the exports by Latvia to the CIS states remains very much subdued and this factor has been much endowed to the reasons, which are political in nature. Indeed this region if exploited by Latvia, could very well lead to a very high increase in its exports. 8) Latvia is now presently facing the greatest danger due to the emigration of its citizens. This could decrease the population even further, which could result in the shortage of labor. This kind of shortage will result in the hampering of the economic development activities, which could present a setback to the overall exports of Latvia. 9) In addition to this it has been reported that the Latvian government is planning to systematically destroy, the educational and the science systems that are in place in the country. This would do very great harm to the entire society and the availability of the various specialists becomes a real question mark. Conclusion: Thus it can be concluded that, the writer has been able to justify the various types of inferences, by studying and comparing the trade patterns between Latvia and the other countries of the world, in the context of globalization. Works Cited: 1. Aleksandrs Fedotovs. (2010, April) . A small nation’s comparative advantage: The case of Latvia . BEH – Business and Economic Horizon, Volume 1, Issue 1, pp 51-57. Retrieved February05, 2011, from http://www.pieb.cz/docs/BEH/Volume1/08_V1_LATVIA_BEH_Alexandr%20Fedotovs_d.pdf 2. PIEB. (2010, November17) . Perspectives of Innovations, Economics and Business . BEH, Volume 1, Issue 1 . Retrieved February05, 2011, from http://pieb-eng.blogspot.com/2010_11_17_archive.html 3. Darren A Bayers. (1997, December19) . Baltic Trade Flows: A Gravity Analysis . RetrievedFebruary05,2011,from http://www.collectionscanada.gc.ca/obj/s4/f2/dsk2/ftp01/MQ36346.pdf 4. Stephen Spruiell. (2006, August30) . Protectionism- Tarrifs, Subsidies and Trade Policy. Retrieved February06, 2011, from http://www.globalenvision.org/library/15/1211 5. Ted Reinert. (2010, April27) . International and Domestic Financial Crisis Responses in Latvia and Ukraine, 2008-2010 . Retrieved February06, 2011, from (http://www.mitchellorenstein.com/Student%20Research%20Trip_files/UKRAINELATVIATRIPREPORT.pdf Read More