Lecture-V (Protection Positive) ECN220 (1) PDF

ECN220 Evolution of the Global Economy @ 2024. All rights reserved Dr. Hakan Toksoy Objective Parts of Chapter-8-9 The Instruments of Trade Policy-I  Analysis of a Tariff A tariff is a tax on importing a good or...

ECN220 Evolution of the Global Economy @ 2024. All rights reserved Dr. Hakan Toksoy Objective Parts of Chapter-8-9 The Instruments of Trade Policy-I  Analysis of a Tariff A tariff is a tax on importing a good or service into a country. Types of Tariffs 1-Specific tariff is stipulated as a money amount per unit of import, such as dollars per ton of steel bars, or dollars per eight-cylinder, two-door sports car. 2-Ad valorem tariff is a percentage of the estimated market value of the imported good when it reaches the importing country. In 2020, average tariff rates on nonagricultural imports were between 2.1% and 4.1% in Canada, the European Union, and Japan. In India, the average tariff on nonagricultural imports is 12%, with a maximum rate of 112%. For agricultural imports, the average tariff is 34%, reaching up to 150%. In China, average tariff rates for nonagricultural products are 7%, with a maximum of 50%, while agricultural products have an average tariff of 14%, with a maximum of 65%. Analysis of a Tariff An Overview of Conclusions A tariff almost always lowers world well-being. A tariff usually lowers the well-being of the nation imposing the tariff. The “nationally optimal” tariff is a possible exception to the case for free trade. When a nation can affect the prices at which it trades with foreigners, it can gain from its own tariff. (The world as a whole loses, however.) A tariff absolutely helps those groups tied closely to the production of import substitutes, even when the tariff is bad for the nation as a whole. Domestic Economy (Small Open Economy) Our country acts as a competitive "price-taker" in global markets for the products we trade. As a Small Country, the prices we pay to foreign sellers remain unchanged regardless of the quantity we import. Price ($ per unit) 𝑺𝐝 𝟓𝟒𝟎 F C B E World Price (Trade 𝟑𝟎𝟎 without restriction) 𝟐𝟏𝟎 A 𝑫𝐝 𝐒𝟎 = 𝟎. 𝟔 𝐃𝟎 = 𝟏. 𝟔 Quantity (millions unit per year) Imports= 𝐌𝟎 = 𝟏. 𝟎  Domestic Economy (Small Open Economy) The Effect of a Tariff on Domestic Producers Price ($ per unit) 𝑺𝐝 𝟓𝟒𝟎 𝟑𝟑𝟎 Domestic Price with a tariff of 10% on Tariffs a imported goods. 𝟑𝟎𝟎 g World Price 𝟐𝟏𝟎 𝑫𝐝 𝐒𝟎 = 𝟎. 𝟔 𝐒𝟏 = 𝟎. 𝟖 𝐃𝟏 𝐃𝟎 = 𝟏. 𝟔 Quantity (millions unit per year) 𝐌𝟏 𝐌𝟎  Domestic Economy (Small Open Economy) The Effect of a Tariff on Domestic Consumers Price ($ per unit) 𝑺𝐝 𝟓𝟒𝟎 F H G 𝟑𝟑𝟎 Domestic Price with a tariff of 10 a Tariffs percent on b c d E 𝟑𝟎𝟎 World Price imported goods. C 𝟐𝟏𝟎 𝑫𝐝 𝐒𝟎 = 𝟎. 𝟔 𝐒𝟏 𝐃𝟏 = 𝟏. 𝟒 𝐃𝟎 = 𝟏. 𝟔 Quantity (millions unit per year) 𝐌𝟏 𝐌𝟎 Domestic Economy (Small Open Economy) The Tariff as Government Revenue As long as the tariff is not so high as to prohibit all imports, it also brings revenue to the country’s government Revenue equals the unit amount of the tariff times the volume of imports with the tariff (Area c in the diagram). This revenue could be used to pay for extra government spending, matched by an equal cut in some other tax, or serve as extra income. Domestic Economy (Small Open Economy) The Net National Loss From a Tariff Consumption effect of the tariff shows the loss to the consumers in the importing nation based on the reduction in their total consumption (Area d in the diagram). Production effect of the tariff is the amount by which the cost of drawing domestic resources away from other uses exceeds the savings from not paying foreigners to buy extra units (Area b in the diagram). Consumer losses outweigh producer gains and government revenue from the tariff. Specifically, the total dollar value of consumer losses (areas a+b+c+d) surpasses the combined producer gains (area a) and government tariff revenues (area c). Consequently, the net national loss from the tariff comprises areas b and d. Domestic Economy (Small Open Economy) The Net National Loss From a Tariff Price ($ per unit) Price ($ per unit) 𝟓𝟒𝟎 𝑺𝐝 b+d=the net national loss 𝟑𝟑𝟎 𝟑𝟑𝟎 a b c d 𝟑𝟎𝟎 𝟑𝟎𝟎 𝐃𝐌 = 𝐃𝒅 − 𝑺𝒅 𝑫𝐝 𝟎. 𝟔 𝟎. 𝟖 𝟏. 𝟒 1. 𝟔 𝟎. 𝟔 𝟏. 𝟎 Quantity (millions unit per year) 𝐌𝟏 = 𝟎. 𝟔 ∆𝐌 = 𝟎. 𝟒 𝐌𝟎 = 𝟏. 𝟎 Protecting Domestic Producers against Import Competition Clearly helps those domestic producers. Harms domestic consumers of the products. Probably hurts the importing nation as a whole. Almost surely hurts the world as a whole. As tariff rates have declined in developed countries and many developing countries, the use of other barriers to provide protection to domestic producers has increased. Nontariff Barriers to Imports A nontariff barrier (NTB) to imports is any policy used by the government to reduce imports, other than a simple tariff on imports. An NTB reduces imports through one or more of the following direct effects by: Limiting the quantity of imports. Increasing the cost of getting imports into the market. Creating uncertainty about the conditions under which imports will be permitted. Antidumping and countervailing duties are often regarded as NTBs, as they respond to perceived unfair practices by foreign exporters. Major Types of Nontariff Barriers (NTBs) Type Description Direct Effect(s) Import quota Quantitative limit on imports Quantity Voluntary export Quantitative limit on foreign Quantity restraint (VER) exports (based on threat of import restriction) Tariff quota Allows imports to enter the Quantity (if the tariff for potential country at a low or zero tariff up to imports above the specified quantity is a specified quantity; imposes a so high that it is prohibitive, so that higher tariff on imports above this there are no imports above the quantity specified quantity) Government Laws and government rules that Quantity (for instance, an outright Procurement favor local products when the prohibition) government is the buyer Cost of importing (for instance, special procedures for imports) Major Types of Nontariff Barriers (NTBs) Type Description Direct Effect(s) Local content and mixing requirements Require specified use of local labour, Quantity materials, or other products Technical and product standards Discriminate against imports by writing or Cost enforcing standards in a way that adversely affects imports more than domestic products Advance deposit Requires some of the value of intended Cost imports to be deposited with the government and allows the government to pay low or zero interest on these deposits Import licensing Requires importers to apply for and receive Cost approval for intended imports Other customs procedures (classification Affect the amount of tariff duties owed or the Cost of product, valuation of product, quota limit applied; procedures can be slow procedures for clearing) or costly  The Import Quota An import quota is a limit on the total quantity of imports of a product allowed into the country during a period of time. Reasons why protectionists and government officials may favor quotas: A quota ensures the quantity of imports is strictly limited. This gives government officials greater power. Both quotas and tariffs reduce import quantities, but they achieve this differently: Tariffs reduce imports by raising domestic prices. Quotas also result in higher domestic prices, similar to tariffs, particularly in perfectly competitive markets. In most cases, a quota and a tariff have comparable effects when they result in the same quantity of imports. Domestic Economy (Small Open Economy) The Effects of a Quota Price ($ per unit) Price ($ per unit) 𝟓𝟒𝟎 𝑺𝐝 𝟑𝟎𝟎 𝟑𝟎𝟎 𝐃𝐌 = 𝐃𝐝 − 𝐒𝐝 𝑫𝐝 𝟎. 𝟔 1. 𝟔 𝟏. 𝟎 Quantity (millions unit per year) Import ∆𝐌 = 𝟎. 𝟒 Domestic Economy (Small Open Economy) The Effects of a Quota Price ($ per unit) Price ($ per unit) 𝟓𝟒𝟎 Quota 𝑺𝐝 b+d 𝟑𝟑𝟎 Domestic Price 𝟑𝟑𝟎 with quota a b c d c 𝟑𝟎𝟎 𝟑𝟎𝟎 𝐃𝐌 = 𝐃𝒅 − 𝑺𝒅 𝑫𝐝 𝟎. 𝟔 𝟎. 𝟖 𝟏. 𝟒 1. 𝟔 𝟎. 𝟔 𝟏. 𝟎 Quantity (millions unit per year) 𝐐𝐮𝐨𝐭𝐚 ∆𝐌 = 𝟎. 𝟒 Domestic Economy (Small Open Economy) The Effects of a Quota Price ($ per unit) Price ($ per unit) 𝟓𝟒𝟎 Quota 𝑺𝐝 𝐒𝐝 + 𝐐𝐐 𝟑𝟑𝟎 Domestic Price 𝟑𝟑𝟎 with quota 𝟑𝟎𝟎 𝟑𝟎𝟎 𝐃𝐌 = 𝐃𝐝 − 𝐒𝐝 𝑫𝐝 𝟎. 𝟔 𝟎. 𝟖 𝟏. 𝟒 1. 𝟔 𝟎. 𝟔 𝟏. 𝟎 Quantity (millions unit per year) 𝐈𝐦𝐩𝐨𝐫𝐭𝐬 𝐰𝐢𝐭𝐡 𝐐𝐮𝐨𝐭𝐚 ∆𝐌 = 𝟎. 𝟔 Domestic Economy (Small Open Economy) The Effects of a Quota Price ($ per unit) Price ($ per unit) 𝟓𝟒𝟎 Quota 𝑺𝐝 𝐒𝐝 + 𝐐𝐐 b+d 𝟑𝟑𝟎 Domestic Price 𝟑𝟑𝟎 with quota a b c d c 𝟑𝟎𝟎 𝟑𝟎𝟎 𝐃𝐌 = 𝐃𝐝 − 𝐒𝐝 𝑫𝐝 𝟎. 𝟔 𝟎. 𝟖 𝟏. 𝟒 1. 𝟔 𝟎. 𝟔 𝟏. 𝟎 Quantity (millions unit per year) 𝐈𝐦𝐩𝐨𝐫𝐭𝐬 𝐰𝐢𝐭𝐡 𝐐𝐮𝐨𝐭𝐚 ∆𝐌 = 𝟎. 𝟒 𝐚𝐟𝐭𝐞𝐫 𝐐𝐮𝐨𝐭𝐚 The Effects of a Quota A quota results in a higher price and larger production quantity, so domestic producers gain surplus equal to Area a. With a higher price and smaller consumption quantity, domestic consumers lose surplus equal to area a + b + c + d. Area c is import markup revenue (the difference between the world price and domestic price, for each unit imported). Areas b (production effect) and d (consumption effect) are losses to the country. The quota, like a tariff, creates two deadweight losses: areas b and d. Area c differs between a quota and a tariff: With a tariff, area c represents government revenue. With a quota, area c is the value of the import licenses, and the benefit goes to those who obtain these licenses (often importers or foreign exporters). Area c: Ways to Allocate Import Licenses 1-Fixed Favoritism The government allocates the licenses for free to importers using a rule or process that involves (almost) no resource costs. The government simply assigns the licenses to firms (and/or individuals) without competition, applications, or negotiation. The firms (or individuals) who receive the import licenses will get Area c. 2-Auction The government can run an import license auction, selling import licenses on a competitive basis to the highest bidders. The government will get Area c. 3-Resource-Using Procedures Instead of fixed favoritism or an auction, the government can insist that firms (and/or individuals) that want to acquire licenses must compete for them in some way other than simple bidding or bribing. Resource-using application procedures include allocating quota licenses on a first- come, first-served basis; on the basis of demonstrating need or worthiness; or on the basis of negotiations. Those seeking the licenses use resources to try to get them. The resource costs indicate that some of Area c is a loss to the country. Voluntary Export Restraints (VERs) A voluntary export restraint is an odd-looking trade barrier in which the importing country government compels the foreign exporting country to agree to “voluntarily” limit its exports to the importing country. The export restraint usually requires that the foreign exporting firm act as a cartel by restricting sales and raising price. Area c is captured by foreign exporters, so it is a loss to the importing country. Other Nontariff Barriers Product standards Domestic content requirements These requirements mandate that a product produced and sold in a country must have a specified minimum amount of domestic production value in the form of wages paid to local workers or materials produced within the country. Government procurement World Trade Organization (WTO) Global rules of international trade established 1995 161 member countries (July 2015); about 20 more countries negotiating for membership Succeeds and subsumes General Agreement on Tariffs and Trade (GATT, an “interim” agreement, 1947) WTO/GATT principles: Liberalize trade restrictions, move toward free trade Nondiscrimination among countries, most favored nation (MFN) No unfair encouragement for exports World Trade Organization (WTO) Key WTO activities: Forum for multilateral trade negotiations. Administers trade agreements. Process for settlement of trade disputes Periodic Trade Policy Review of each member country Newer WTO areas: Protection of intellectual property (Agreement on Trade Related Aspects of Intellectual Property Rights—TRIPS) General Agreement on Trade in Services (GATS) Extends WTO/GATT principles to “trade in services.” Multilateral sector agreements World Trade Organization (WTO) One or several member country governments can bring complaint that another member country government is not abiding by the global rules. If negotiations between the countries cannot resolve the issue, a panel of experts hears evidence, issues ruling. Appeal is possible, but usually the panel ruling is upheld. If practices or policies are found to violate global rules: Government is requested to change, to conform to rules. If the offending government does not, complaining government(s) can be authorized to seek compensation, including retaliatory penalties. World Trade Organization (WTO) Unilateral Pressure Section 301 of the Trade Act of 1974 gives the U.S. president the power to negotiate to eliminate “unfair trade practices” of foreign governments. It can threaten to enact new barriers to imports into the U.S. from the offending country. U.S. government is now much more likely to send complaint to the WTO dispute settlement process.