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Protectionism: Trade Barriers
Every year there is some version of this on the test
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FREE TRADE or PROTECTIONISM?
Free trade = no trade barriers Trade is allowed to be conducted w/o any restrictions Absence of artificial barriers (government imposed) Protectionism = imposing trade barriers to protect the income of domestic producers
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Overview of Types of Protectionism
Direct forms of Protectionism Embargo Tariffs Quota subsidies Alternative forms of Protectionism VER Exchange Controls Import Licenses Administrative Barriers Health and safety environmental
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Complete Free Trade Due to comparative advantage, imports flow in at P2, as foreign merchants can undercut domestic production. S domestic Pt. 2 trade benefits consumers because prices are lower (from p1 to p2) and they have more goods available, Q0 to Qw. Domestic producers lose because they sell less, A to Q0 and at a lower price, p2 instead Of p1. 1 Price P1,domestic 2 P2, world S world D A W Q1 Quantity
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Embargo: Total ban or lack of trade
May be self-imposed by a domestic government Self-imposed embargos on illegal drugs, endangered animals etc Imposed from outside for political or military reasons. Most effective when country can’t produce embargoed goods by themselves, or at a very high cost. S domestic Pt. 1 is equilibrium for domestically produced goods. 1 Price P D Q1 Quantity
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Tariff: tax on imports ad valorem
A tax on a good whose amount depends on the value of the good or service, eg. 15% sales tax S domestic 1 Price P1 5 P3 4 S Tariff 3 2 S world P2 D A B Q1 C W Quantity
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Tariff - Domestic Impact
Producers benefit- A to B and those producing at 0 to A get higher price (0P3 rather than 0P2) Consumers lose- higher prices at P3 and fewer goods at C rather than W. Government gains Gov. Revenue S domestic 1 Price P1 44 5 P3 4 S Tariff 3 2 S world P2 D A B Q0 C W Quantity
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Tariffs as a % of Government Revenue
Tariffs as a percentage of total government revenue Country Tariffs as a % of Government Revenue U.K. 0.1% Japan 1.2 U.S. 1.5 Costa Rica 16.1 Ghana 31.2 Dominican Republic 44.2 Lesotho 55.1 Source: World Bank
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Quotas- A physical limit on the amount of goods which may be imported in a set period of time S domestic Quota Equilibrium with quota Price P1 P3 S world P2 D Equilibrium with free trade. At P2 A B Q0 C Qw Quantity
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Quota- Domestic Impact
Producer Benefits – Better than free trade but not as good as an embargo Consumer Result – Increased P but decrease Q compared to free trade but lower P and higher Q than without free trade. S domestic Quota Equilibrium with quota at P2 the free trade allows certain goods in up to the max of B and then no more M allowed so supply =Sd Price P1 P3 S world P2 D Equilibrium with free trade. At P2 A B Q0 C Qw Quantity
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Subsidies – applied to domestic goods to make them cheaper and more competitive with imports. S domestic S domestic w/subsidy Price P P2 S world P1 2 D Q0 C Qw Quantity
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Subsidies – Domestic Impact
Domestic producers – this decreases costs for domestic producers so they can compete with imports. Consumers – pay same p as with free trade and receive same Q S domestic S domestic w/subsidy 0-Q0 produced domestically Q0-QW imported Price P P2 S world P1 2 D Q0 C Qw Quantity
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Alternative Forms of Protection
Voluntary Export Restraints (VER) Exporting country agrees to a voluntary quota of exports into a second country Exchange Controls Government limits amount of foreign currency available to importers, or citizens traveling abroad, or companies investing abroad Import Licensing Form of rationing where the importer must obtain a license, or permission to import Administrative Barriers Safety, health or environmental requirements Other forms of “red-tape” obstacles
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Arguments for Protectionism
Military self-sufficient Infant Industry Protect developing industry in LDCs Declining Industries Allow firms a period of protection Protecting Employment Anti-Dumping Dumping: product exported at a price below production costs
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Arguments Against Protectionism
HIGHER PRICES Poor Resource Allocation What else? (see text)
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Cost to Consumers Per Job Saved
Costs of protecting U.S. jobs from foreign competition Industry Cost to Consumers Per Job Saved Autos $105,000 Color TVs 420,000 Motorcycles 150,000 Athletic Footwear 30,000 Apparel 37,000 Specialty Steel 1,000,000 Glassware 200,000 Sugar 60,000 Ball Bearings 90,000 Source: Coughlin, et al. (1988) and Hufbauer, et al
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Effect of tariffs and quotas on imports, domestic production, and prices
PW is the world price—that is, the price of the good that world be established in a global market without trade barriers. Pd is the domestic price—that is, the price in the domestic market if imports were equal to zero. Qd is the domestic output of a good if imports are zero. T is a tariff (measured in dollars, yen, lira, peseta’s, etc.) per unit, ton, pound, etc. Pq is the domestic price under the imposition of a quota.
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Figure 8.8a: Effect of an embargo on Japanese watches
World price is $12.50 Embargo pushes price paid by domestic buyers to $15.00 Loss of CS = BDEA CDE is the “dead weight loss (welfare loss)” 10 10
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effect of a tariff on oranges
Price ($) S Domestic production increases from q1 to q2. The domestic price of oranges increases. Imports with tariff Pd PW + T PW D Free trade imports q1 q2 qd q4 q5 Quantity (tons)
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effect of a Quota on oranges
Price ($) S S + Quota Pd Domestic production increases from 100 to 200 tons.. The domestic price of oranges increases. Import quota = 100 tons Pq PW Free trade imports = 300 tons D 100 200 250 300 400 Quantity (tons)
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