Chapter 11 - Trade Policy in Developing Countries Flashcards
How can the term developing be defined?
The term developing does not have a precise definition.
It encompasses many low- and middle-income countries.
Explain the link between development and industrialisation. (3)
How can trade policy be used to help with industrialisation?
1) A dominant view: economic development involves a shift away from agriculture towards industrial production/manufacturing.
2) This is because productivity growth is regarded to be faster in manufacturing than other activities.
3) Manufactures can also be traded, so the market for any particular good is larger.
Main approach known as import substituting industrialisation.
What is import substituting industrialisation? (6)
1) Also known as “import substitution industrialisation” or ISI.
2) Given that industrialisation is desirable, which specific industries should we specialise in?
3) Would make a promising start to target those for which we already have domestic demand. - i.e. if we are already importing computers, we know that consumers desire computers.
4) The idea behind ISI: simply begin to produce at home goods that are currently being imported.
5) Have high rates of ‘effective protection’ to encourage domestic production.
6) The logic is that by having effective protection very high, domestically produced goods will be substituted for those produced abroad (i.e. will be used instead of goods produced abroad).
What is the infant industry argument? (3)
1) The principal justification of ISI was/is the infant industry argument IIA:
2) Countries may eventually be competitive in some industries, but these industries cannot initially compete with well established industries in other countries.
3) To allow these industries to establish themselves, government must temporarily support them until they have brown productive enough to compete internationally.
What two distinctions must be stressed in order to analyse the IIA clearly?
1) The distinction between economies of scale - essentially a static concept - and economies of time; also called dynamic economies.
2) The distinction between economies that are internal to the firm and those that are external to the firm (but internal to the industry).
What are dynamic internal economies? (2)
How can this be viewed when factors are engaged in production? (2)
1) Under dynamic internal economies, average costs of a firm assumed to fall the longer its output is continued.
2) That is, the firm learns from experience.
One way to view this is that when factors are engaged in production, two products result:
1) Visible current output;
2) Invisible accumulation of experience and knowledge - creation of human capital through investment in learning.
In the case of dynamic external economies:
What is the problem of appropriability? (3)
1) Firms may not be able to privately appropriate the benefits of their investment in new industries because those benefits are public goods.
2) The knowledge created when starting an industry may not be appropriable (may be a public good) because of a lack of property rights.
3) If establishing a system of property rights is not feasible, then a tariff or subsidy to encourage growth in new industries may be justified.
When is ‘no assistance’ justified? (3)
Even in the presence of externalities, if the following assumptions are satisfied, government assistance is not warranted.
1) Finance is freely available at the social discount rate - the rate at which society values the future, if you can borrow at this rate it takes into account the extent to which you cannot reap the rewards today.
2) The firm has correct expectations about the potential gains they can make.
3) There are no uncorrected market divergences. For example, marginal private cost always equals marginal social cost.
Under these assumptions the market outcome is efficient.
What is important to point out about the IIA considering that protection is only temporary? (2)
The infant industry argument is for temporary protection (only until the industry is strong enough to operate on its own). Hence:
1) Time must enter the argument. IIA cannot rest on static economies alone.
2) The argument for government intervention to alter the pattern of production implies: (i) some kind of market imperfection (e.g. in capital markets, entrepreneurs cannot borrow effectively to get a project off the ground): and/or (ii) some kind of information problem (e.g. with expectations, people do not have hope in developing countries - lack of successful comparisons to form expectations); and/or (iii) externality (so that marginal private and social benefits diverge).
What is the record for import substituting industrialisation?
Did ISI promote economic development?
Import substituting industrialisation in Latin American countries worked to encourage manufacturing industries in the 50s and 60s.
No, despite some apparent successes, countries adopting the policies grew more slowly than other.
What problems are there with the Infant Industry Argument? (3)
1) It may be wasteful to support industries now if they will be competitive later anyway.
2) Alternatively, with protection, infant industries may never become competitive.
3) It seems likely that protection was ‘captured’ by import-competing interests. - When a policy is captured, interest groups see an opportunity to extract money from the policy without responding to it in the intended way.
What are the disadvantages of import substituting industrialisation? (4)
1) Import-substitution industrialisation involved costs and promoted wasteful use of resources:
2) It involved complex, time-consuming regulations, which may have been motivated by ‘rent-seeking’.
3) It set high tariff rates for consumers, including firm that needed to buy imported inputs for their products.
4) It promoted inefficiently in small industries.
What is the case for trade liberalisation? (5)
1) Meanwhile, some low- and middle-income countries that had relatively free trade, mainly Asia, had higher average economic growth than those that followed ISI.
2) By the mid-1980s, many government had lost faith in ISI and began to trade liberalise.
3) Trade liberalisation in developing countries occurred along with dramatic increase in the volume of trade.
4) The share of trade in GDP has tripled over 1970-98, with most of the growth happening after 1985.
5) The share of manufactured goods in developing-country exports surged, coming to dominate the exports of the biggest developing economies.
Trade and Growth: Takeoff in Asia (7)
1) Instead of import substitution, several countries in East Asia adopted trade policies that prompted exports in targeted industries.
2) Japan, Hong Kong, Taiwan, South Korea, Singapore, Malaysia, Thailand, Indonesia and China experienced rapid growth in various export sectors and rapid economic growth in general.
3) Our understanding of how this worked is still limited, and it a fertile area of current research.
4) It’s unclear if the high volume of exports and imports caused rapid economic growth or was merely correlated with rapid economic growth.
5) High saving and investment rates could have led to both rapid economic growth in general and rapid economic growth in export sectors.
6) Rapid growth in education led to high literacy and numeracy rates, important for productive labour force.
7) These nations also undertook other economic reforms, including deregulation of capital markets.
Two main effects of trade liberalisation.
1) Increase in the volume of trade.
2) Change in the nature of trade - increase in the trade of manufactured goods.
