Protectionism: Trade Barriers

1. Protectionism:Trade Barriers Every year there is some version of this on the test

2. 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

3. Direct forms of Protectionism Embargo Tariffs Quota subsidies Alternative forms of Protectionism VER Exchange Controls Import Licenses Administrative Barriers Health and safety environmental Overview of Types of Protectionism

4. 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 P1,domestic Price 2 P2, world S world D 0 W A Q1 Quantity

5. 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 P Price D Q1 Quantity

6. 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 P1 Price 5 4 P3 S Tariff 3 2 S world P2 D 0 B Q1 W C A Quantity

7. 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 P1 Price 44 5 4 P3 S Tariff 3 2 S world P2 D 0 B Q0 W C A Quantity

8. Tariffs as a percentage of total government revenue Source: World Bank

9. 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 P1 Price P3 S world P2 D Equilibrium with free trade. At P2 0 B Qw Q0 C A Quantity

10. 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 P1 Price P3 S world P2 D Equilibrium with free trade. At P2 0 B Qw Q0 C A Quantity

11. Subsidies – • applied to domestic goods to make them cheaper and more competitive with imports. S domestic S domestic w/subsidy P Price P2 S world 2 P1 D Qw Q0 C 0 Quantity

12. 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 P Price P2 S world 2 P1 D 0 Qw Q0 C Quantity

13. 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

14. 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

15. Arguments Against Protectionism • HIGHER PRICES • Poor Resource Allocation • What else? (see text)

16. Industry Cost to ConsumersPer 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 Costs of protecting U.S. jobs from foreign competition Source: Coughlin, et al. (1988) and Hufbauer, et al. 1986.

17. 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.

18. 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)”

19. 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 0 q1 q2 qd q4 q5 Quantity (tons)

20. 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 0 100 200 250 300 400 Quantity (tons)