Trade barriers question

Question 1

Protectionism

Answer 1

The act of guarding a country’s business from foreign competition, by imposing restrictions on free trade.

Question 2

Why might a country use Protectionism?

Answer 2

-Reduce Trade Deficit/ BoP ( as Imports are reduced)
-Protect Infant Industries (like babies, need support, high costs at start)
-Retaliation (to other countries policies)
-Protect Jobs
-Raise government tax revenue (usually secondary benefit, not main objective)
-Response to dumping
-Protect Strategic Industries

Question 3

4 Main Ways the Government protects the businesses in thier country

Answer 3

-Tariffs
-Quotas
-Subsidy
-Other

Question 4

Tariffs

Answer 4

A tariff is a tax imposed on imported goods. The effect is to raise the price to the consumer, leading to a fall in demand. This may mean that consumers will switch consumption from imports to domestically produced subsidies.

Question 5

Tariff Diagram - Before Tariff

Answer 5

• We assume other countries can supply at a lower price and it is assumed that price is elastic - the country can import as much as they want at the going world price. With free trade domestic suppliers will produce at Q2. Domestic demand will be at Q3. The difference is filled with imports due to domestic demand being higher than domestic supply.

Question 6

Tariff Diagram - After Tariff

Answer 6

Tariff is introduced by the government, increasing world prices. At this price, there is likely to be a contraction in demand but also an extension of supply as businesses are encouraged to produce more at this increased price. Imported goods will reduce, and domestic supply will increase. Increased Prices for domestic consumers, however. The shaded box is the government revenue from importing tariffs.

Question 7

Positives of Introducing Tariffs

Answer 7

On the face of it the government has achieved its objectives:
-Imports reduced
-Domestic businesses have increased supply
-Domestic Jobs have been maintained/ potentially increased
-Government had gained also from increased tax revenue

Question 8

Drawbacks of Introducing Tariffs

Answer 8

-Consumers are worse off as they pay a higher price for the good
-They consume less and there is a loss of consumer surplus.
So therefore:
-Consumer surplus has reduced
-Producer Surplus has increased
-However there is deadweight loss to society

Question 9

Deadweight loss

Answer 9

-Cost to society created by market inefficiencies, which occurs when supply and demand are out of equilibrium

Question 10

Tariffs - Society

Answer 10

-Consumers are worse off- this is represented by the various shaded areas below the Pw = tariff supply line.
-Some of the previous consumer surplus has been redistributed to others in society ie government revenue and producer surplus.
-But there is still a welfare loss represented by two red triangles
-In other words societies worse off by the imposition of a tariff as consumers are in reality paying a higher price for there goods.
-NB The impact of the tariff will depend upon the elasticity of demand and supply in the domestic market

Question 11

Quotas

Answer 11

An Import quota is a limit on the total quantity of a product can be supplied to a market. An import quota therefore restricts the supply of an imported product. By cutting market supply the price of the imported product is likely to rise and black market may develop. Quotas limit market access to imported.

Question 12

Quota Diagram

Answer 12

Other countries are prepared to export any amount at the world price (assumption) without a quota, domectic producers would be prepared to supply at S0 and demand at D0 at the world price.
By imposing a quota, total supply is now given by Sd + quota which is domestic supply + the quota of imports allowed into the economy from country A.

Question 13

Arguments to use tariffs

Answer 13

-To protect strategic industries or sectors from foreign competition ( CAP/ Defence).
-To protect jobs maybe in struggling/less efficient industries- sunset industries (however this is likely to be just putting off the inevitable and certainly goes against the theory of comparative advantage)
-To raise tax revenue
-To deter dumping. (selling a product at a price below cost). Consumers may be pleased to get goods at such a good price, but a firm competing with dumped imports will struggle. The WTO permits anti-dumping policies in order to deter unfair competition.
-Infant industries argument - if protected at the start, industries may be able to grow and reap the benefits of Economies of Scale and compete effectively in the long term without protection.

Question 14

Arguments against the use tariffs

Answer 14

Reduction in choice for UK consumers plus goods and services are more expensive - a welfare loss for consumers.
-May increase revenues. But likely to cause retaliation from the exporting country ie trade wars. This is likely to mean that everyone is worse off! Whilst the WTO is committed to reduce trade barriers, it allows retaliation in the form of countervailing duties
-May protect UK jobs but likely to be limited if firms do not become competitive on an international scale. This may just delay the inevitable structural change that is necessary. For countries to develop new sources of comparative advantage there is bound to be a transitional period where old industries contract and new industries emerge. Effectively the government is subsidising inefficient local producers.
-Whilst it may give firms time to become more competitive, it may make domestic firms complacent and productivity/ efficiency gains are not realised. This may lead to x-inefficiency and an inability to compete in the global market
-Where the tariff is put on a good and that is price inelastic it will have minimal effect. This may be because domestically produced goods are inferior to the imports. Therefore demand may not increase domestically produced goods.

Question 15

Quota Surplus

Answer 15

There is a reduction in quantity imported ,a supply extension, and a contraction of demand.
Consumer surplus decreases and producer surplus increases. So domestic producers gain and consumers lose.

Question 16

Winners and Loser - Quotas

Answer 16

-Domestic producers gain through selling at a higher price
-Producers exporting from Country A gain, they benefit from the higher price they are able to charge due to the quota. Alternatively; the government may issue licences for domestic businesses to buy the products at the world prices and sell at the new domestic prices. This would be a further gain for domestic businesses.
-There is a welfare loss to the country however, due to the higher prices if there is also if there is also a gain in the yellow box.
-Like a tariff, quotas can lead to X-inefficiency in domestic firms and keep workers employed in unproductive sectors where the country doesn’t have a comparative advantage

Question 17

X - inefficiency

Answer 17

*X Inefficiency occurs when a firm lacks the incentive to control costs. This causes the average cost of production to be higher than necessary.
* Like a tariff, quotas can lead to X-inefficiency in domestic firms and keep workers employed in unproductive sectors where the country doesn’t have a comparative advantage. This also contributes to a loss to society.

Question 18

The impact of protectionist policies

Answer 18

Protectionist policies have a number of effects on economic agents in a country.
These effects differ according to which policy is in operation, but are most clearly illustrated with reference to the imposition of a tariff, which is the most common form of protectionist policy.
* Consumers: in general, consumers are likely to be worse off as a result of protectionist measures.
In the case of a tariff, consumer surplus is lower after a
tariff, as consumers must pay a higher price for the good, and will consume less.
* Producers: producers in the domestic economy will gain from protection, as they will receive higher producer surplus (at the expense of consumers). However, their incentives to produce efficiently will be low, so in the long run they may never become able to compete effectively in world markets. The infant industry benefits are rarely delivered.
* Governments: when a government imposes a tariff, it gains by the revenue that it raises. This may be valuable for the government of a developing country that faces problems with raising revenue through other forms of taxation, because of the lack of an administrative structure. Short term as retaliation cancels out gain from tax.
* Living standards: for society as a whole, the imposition of a tariff carries a deadweight welfare loss, so overall well-being is lower with a tariff in place.
* Equality: protectionist measures entail a redistribution of resources, from consumers to producers, so there may be an increase in inequality in the society.

Question 19

Producer Subsidy

Answer 19

A payment by the government to help domestic businesses become more competitive (i.e. help lower their prices)

Question 20

Subsidy

Answer 20

-A subsidy will encourage production. However, unlike a tariff, consumers can still purchase the good at the world price.
-There is likely to be a reduced dependence on imported goods
-However, the government obviously has to pay for this and these funds carry an opportunity cost
-Furthermore, the subsidy may not ensure any increased efficiency happens, is it worth propping up an inefficient industry?
-It may also encourage a surplus to be produced - wine lakes and butter mountains - referring to the large stockpiles of agricultural products that were created by the CAP.

Question 21

CAP Surplus

Answer 21

-The EUs common agricultural policy contained a number of subsidies for wine products, leading to a supply glut; this surplus forced an overhaul of EU farm policies.
In 2007 it was reported that for the previous several vintages, European countries had been producing 1.7 billion more bottles of wine than they sold.

Question 22

Non Tariff Barriers

Answer 22

Technical barriers to trade
-A technical barrier to trade (TBT) is any regulation, standard or procedure that could make exporting goods to another country more difficult.
-Safety/product standards. Putting stringent standards onto imported goods and therefore deterring imports.
-If standards are set so high it may mean that exporters cannot meet these standards
Examples
-Until recently China ruled that all avocados coming from countries such as Kenya had to be frozen to -30 deg and peeled before shipping.
-Within the African Continental Free Trade Area, businesses must contend with 55 separate natural standards, 55 test certificates and 55 national inspection procedures. This slows to speed at which trade takes place.

Question 23

Undervalued exchange rate

Answer 23

-Keeping the exchange rate undervalued. China sets its own exchange rate and has been accused of setting it artificially low. The effect of this is to make imports more expensive and exports cheaper. Therefore Chinese made goods would be more competitive in the domestic market and overseas market.

Question 24

Brief Impact of a quota

Answer 24

Increase in domestic supply- reduced imports leads to natural domestic, less supply from abroad. Incentivised by higher price.
Decrease in domestic demand - increase in price, restriction on no. imports available, some wont pay higher prices
Imports decrease - quota decrease amount of imports
No change in government tax revenues - no direct increase, no additional increase, may be an indirect impact of producers selling more
Domestic producer revenue/producer surplus increase- selling at a higher price
Decrease in foreign producer revenue - reduction in sales
-Consumer surplus decrease - paying higher price.

Question 25

Brief Impact of a tariff

Answer 25

Increase in domestic supply- world supply reduced, domestic fill gap. Incentives for domestic firms to produce more, higher prices.
Decrease in domestic demand - price goes up, causing demand to contract.
Imports decrease - tariff reduces imports, makes them more expensive, demand switches from imports to domestic.
Increase in government tax revenues - additional prices goes to government, in SR, In LR, retaliation could cancel out
Domestic producer revenue/ producer surplus increase- selling at a higher price
Decrease in foreign producer revenue - reduction in sales, fewer exports
Consumer surplus decrease - paying higher price, band of consumers arent willing to pay, can reduce standards of living, reduction in disposable income.