International Trade - Theory and Policy, 2010a

has an ownership share in that company and is entitled to dividends or income based on the profitability
of the company. As such, that person is a capitalist—that is, an owner of capital.
The H-O model assumes private ownership of capital. Use of capital in production will generate income
for the owner. We will refer to that income as capital “rents.” Thus, whereas the worker earns “wages” for
his or her efforts in production, the capital owner earns rents.
The assumption of two productive factors, capital and labor, allows for the introduction of another
realistic feature in production: differing factor proportions both across and within industries. When one
considers a range of industries in a country, it is easy to convince oneself that the proportion of capital to
labor applied in production varies considerably. For example, steel production generally involves large
amounts of expensive machines and equipment spread over perhaps hundreds of acres of land, but it also
uses relatively few workers. (Note that relative here means relative to other industries.) In the tomato
industry, in contrast, harvesting requires hundreds of migrant workers to hand-pick and collect each fruit
from the vine. The amount of machinery used in this process is relatively small.
In the H-O model, we define the ratio of the quantity of capital to the quantity of labor used in a
production process as the capital-labor ratio. We imagine, and therefore assume, that different industries
producing different goods have different capital-labor ratios. It is this ratio (or proportion) of one factor to
another that gives the model its generic name: the factor proportions model.
In a model in which each country produces two goods, an assumption must be made as to which industry
has the larger capital-labor ratio. Thus if the two goods that a country can produce are steel and clothing
and if steel production uses more capital per unit of labor than is used in clothing production, we would
say the steel production iscapital intensive relative to clothing production. Also, if steel production is capital
intensive, then it implies that clothing production must be labor intensive relative to steel.
Another realistic characteristic of the world is that countries have different quantities—that is,
endowments—of capital and labor available for use in the production process. Thus some countries like
the United States are well endowed with physical capital relative to their labor force. In contrast, many
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