Chapter 6

The Political Economy of International Trade

Introduction
Free trade occurs when governments do not attempt to restrict what its citizens can buy from another country or what they can sell to another country While many nations are nominally committed to free trade, they tend to intervene in international trade to protect the interests of politically important groups

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Instruments Of Trade Policy

The main instruments of trade policy are(Trade barriers): Tariffs Subsidies Import Quotas Voluntary Export Restraints Local Content Requirements Administrative Policies Antidumping Policies

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Tariffs
Tariffs are taxes levied on imports that effectively raise the cost of imported products relative to domestic products Specific tariffs are levied as a fixed charge for each unit of a good imported ($3 per barrels of oil) Ad valorem tariffs are levied as a proportion of the value of the imported good (EU tariff on Banana import from Latin America, 15 to 20 % for the first 2.5 million tons) Tariffs increase government revenues, provide protection to domestic producers against foreign competitors by increasing the cost of imported foreign goods, and force consumers to pay more for certain imports So, tariffs are unambiguously pro-producer and anti-consumer, and tariffs reduce the overall efficiency of the world economy

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Subsidies
Subsidies are government payments to domestic producers Consumers typically absorb the costs of subsidies Subsidies help domestic producers in two ways: they help them compete against low-cost foreign imports they help them gain export markets

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Import Quotas And Voluntary Export Restraints

Import quotas directly restrict the quantity of some good that may be imported into a country (US allows only certain firms to import cheese) Tariff rate quotas are a hybrid of a quota and a tariff where a lower tariff is applied to imports within the quota than to those over the quota Voluntary export restraints are quotas on trade imposed by the exporting country, typically at the request of the importing countrys government (Japanese exports of automobiles to the US in 1981 to 1.68 million.).Countries agree due to avoid more damaging actions. A quota rent is the extra profit that producers make when supply is artificially limited by an import quota (the Japanese gained $1 billion per year from 1981 to 1985) Import quotas and voluntary export restraints benefit domestic producers by limiting import competition, but they raise the prices of imported goods
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Local Content Requirements

A local content requirement demands that some specific fraction of a good be produced domestically Local content requirements benefit domestic producers, but consumers face higher prices.(India enforces this on cement import from Bangladesh)

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Administrative Policies
Administrative trade polices are bureaucratic rules that are designed to make it difficult for imports to enter a country These polices hurt consumers by denying access to possibly superior foreign products Netherlands export of tulip bulbs to Japan suffered as they were all checked. France required all imported video tape recorders enter though a single small entry point which was poorly staffed.

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Antidumping Policies
Dumping refers to selling goods in a foreign market below their costs of production, or selling goods in a foreign market below their fair market value (the US accused EU of dumping Steel) Dumping enables firms to unload excess production in foreign markets Some dumping may be predatory behavior, with producers using substantial profits from their home markets to subsidize prices in a foreign market with a view to driving indigenous competitors out of that market, and later raising prices and earning substantial profits Antidumping polices (or countervailing duties) are designed to punish foreign firms that engage in dumping and protect domestic producers from unfair foreign competition. The US imposed 9% and 4% tariffs on two Korean semi conductor exporters.

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The Case For Government Intervention

Arguments for government intervention: Political arguments are concerned with protecting the interests of certain groups within a nation (normally producers), often at the expense of other groups (normally consumers) Economic arguments are typically concerned with boosting the overall wealth of a nation (to the benefit of all, both producers and consumers)

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Political Arguments for Govt Intervention

Political arguments for government intervention include: protecting jobs protecting industries deemed important for national security retaliating to unfair foreign competition protecting consumers from dangerous products furthering the goals of foreign policy protecting the human rights of individuals in exporting countries

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Protecting Jobs And Industries

Protecting jobs and industries is the most common political reason for trade restrictions : Japan imposed Import quotas on Rice to protect jobs in the agricultural sector.

Usually this results from political pressures by unions or industries that are "threatened" by more efficient foreign producers, and have more political clout than the consumers that will eventually pay the costs . (The EU applied CAP or Common Agricultural Policy to protect the politically powerful farmers.)
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National Security
Industries such as aerospace or electronics are often protected because they are deemed important for national security. In 1986 , the US semiconductor manufacturing consortium of 14 companies , SEMATECH, convinced the government that their product was vital to defense industries and so the US could not rely on foreign supplies for these. As a result the government provided $100 million per year as subsidies. It was withdrawn in 1996 only after the rise in demand for personal computers and Intel processors.

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Retaliation
When governments take, or threaten to take, specific actions, other countries may remove trade barriers. The US threatens China to face trade sanctions unless they impose Intellectual Property Laws. This caused the US millions of dollars due to piracy. After threats to impose 100% tariff on certain Chinese imports , China agreed to tighten its implementation of Intellectual property laws. If threatened governments dont back down, tensions can escalate and new trade barriers may be enacted.

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Protecting Consumers
Governments may intervene in markets to protect consumers. The US banned import of 58 types of assault weapons to avoid incidents of shooting in 1998 after such an incident took place in Arkansas, home state of the then president Bill Clinton, that killed four children and a school teacher. Austria and Luxembourg banned import of Genetically modified cotton seeds by Monsanto as they can cause genetic pollution.

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Furthering Policy Objectives

Foreign policy objectives can be supported through trade policy Preferential trade terms can be granted to countries that a government wants to build strong relations with.(US relations with Israel) Trade policy can also be used to punish rogue states that do not abide by international laws or norms.(US sanctions against Iran) However, it might cause other countries to undermine unilateral trade sanctions The Helms-Burton Act and the DAmato Act, have been passed to protect American companies from such actions
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Economic Arguments For Intervention

Economic arguments for intervention include: the infant industry argument strategic trade policy

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The Infant Industry Argument

The infant industry argument suggests that an industry should be protected until it can develop and be viable and competitive internationally The infant industry argument has been accepted as a justification for temporary trade restrictions under the WTO However, it can be difficult to gauge when an industry has grown up Critics argue that if a country has the potential to develop a viable competitive position its firms should be capable of raising necessary funds without additional support from the government
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The Infant Industry Argument

Brazil had the 10th largest auto industry in the world with protection for 30 years. But after the protection was removed in the 1980s it turned out to be one of the most inefficient in the world. But TATA is an example of government protection being fruitful.

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Strategic Trade Policy

Strategic trade policy suggests that in cases where there may be important first mover advantages, governments can help firms from their countries attain these advantages. (US govt. gave substantial R & D grants to Boeing which built the 707 passenger jet following a military plane)

Strategic trade policy also suggests that governments can help firms overcome barriers to entry into industries where foreign firms have an initial advantage. (The Japanese government provided research support in the 70s an early 80s to LCD manufacturers who ultimately beat the Americans who entered the market first.)

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