International Business and Global Strategy - Essay Example

As labor productivity rises, cost of production falls and producers profit rises (Baumol & Blinder, 2010). This leads to hike in overall wage rate in the economy. With rise in profit, there is technological advancement in the productive process and also capital per worker rises since the producer gets the incentive to expand production. This again boosts labor productivity (Bruce, 2004). When NAFTA was signed this fact raised concern since with lower productivity per worker the Mexican industries would deteriorate under free trade. 2. The Heckscher-Ohlin theorem explains that when a country engages in trade with another country, it would export those goods that utilize higher quantity of those factors of production, that are available in abundance in the country and would import those goods, production of which require relatively higher amounts of factor that is relatively scarce in the country (Arora, 2007).

In simple terms, a country would export capital intensive commodities if the capital to labor ratio is higher in the country compared to labor to capital ratio (Cherunilam, 2008). However, there is considerable debate regarding the validity of the Heckscher-Ohlin theorem. . , although the United States has been acknowledged as a capital abundant country since the time of World War 2, it imports capital-intensive goods while exporting labor-intensive goods (Iastate, n.d.). Several economists have tried to provide an explanation for this paradoxical result, including Leontief himself.

One reason behind this result is the notion of demand reversal. According to this concept, the US has relatively higher preference for capital intensive commodities. This raises price of capital while the price of labor is ultimately lower than capital. This indicates that US follows the H-O theorem while exporting labor intensive goods. Secondly, it is also argued that the US is a skill abundant country. Therefore, following the H-O theory the US exports labor intensive commodities. Although these explanations corroborate the H-O theorem, it is undoubted that the theorem in its own accord falls short of describing the pattern of international trade.

Most of the assumptions underlying this theory are not realistic, such as; all countries do not have identical technology of production and all production processes do not follow constant returns to scale. Hence, according to my opinion, the H-O theorem needs to be reframed so as to be able to make more accurate predictions about international trade. 3. Flexible exchange rate system refers to the monetary system in which rate of exchange between two currencies belonging to two different countries is determined by market forces, i.e., the “forces of demand and supply” (Siddaiah, 2010, p. 43) existing in these countries.

This system of determination of exchange rate between two currencies allows the foreign exchange market to determine actual worth of a currency. Therefore, changes automatically occur in the