International Economics >> The Opportunity Cost Theory
The classical theories of international trade-the absolute advantage and the comparative advantage theories- discussed in the previous chapter, are based on invalid labour theory of value. Besides, the classical theories have been strongly criticized for being based on many unrealistic assumptions. Gotfreid Haberler made a significant improvement in classical theories of trade, especially on the Ricardian theory of comparative advantage. Haberler has used the concept of opportunity cost of producing a commodity instead of absolute or comparative cost of production. His theory is therefore also known as the opportunity cost theory of international trade. Haberler's theory of trade is also called the neo-classical theory of trade.
HABERLER'S OPPORTUNITY COST THEORY OF TRADE
The invalidity of labour theory of value invalidates his theory of trade. In order to overcome the problems caused by the labour theory of value, Haberler has used opportunity costs-more precisely, the marginal opportunity cost-instead of labour cost to compare the cost of production in two countries.
What is Opportunity Cost?
In the context of production, the opportunity cost of producing commodity, say X, is the quantity of another commodity, say Y, that must be sacrificed to release resources just sufficient to produce one unit of X.
In his opportunity cost theory of international trade, Haberler discards Ricardo's restrictive premise of labour theory of value in favour of a more general framework without otherwise changing Ricardo's basic argument. 'The opportunity 'cost theory of trade postulates that relative prices of different commodities are determined by the overall cost differentials. Here, the term 'cost' does not refer to the amount of labour required to produce a commodity, but to the alternative production that has to be forgone to produce the commodity in question. In other words, the value of each commodity is taken to be equal to its opportunity cost.
Haberler's theory of trade base on opportunity cost is re resented by production possibility curves. A production possibility curve represents the production frontiers (of generally two goods) that can be reached by using all the available factors of production. In simple words, the production possibility curve shows the various combinations of two goods that can be produced given the 'factor endowments of a country-factor endowments include all the factors of production available to a country. In this sense, Haberler deviates from the classical assumption of only one factor and introduces, in his model, all the factors of production.
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