1. The Political Economy of International Trade
Chapter 7
The Political Economy of International Trade
By: Ms. Adina Malik (ALK)

2. Learning Objectives
The range of policy instruments that governments use to intervene in international trade
The political and economic reasons that governments have for intervening in international trade
The emergence of the modern international trading system, which is based on GATT and its successor, the WTO

3. Instruments Of Trade Policy
The main instruments of trade policy are:
Tariffs
Subsides
Import Quotas
Voluntary Export Restraints
Local Content Requirements
Administrative Polices
Antidumping Policies

4. Instruments Of Trade Policy
Tariffs are taxes levied on imports (or exports)
Specific tariffs are levied as a fixed charge for each unit of a good imported (e.g. $3 per barrel of oil)
Ad valorem tariffs are levied as a proportion of the value of the imported good (e.g. In March 2002, the U.S. government placed an ad valorem tariff of 8% to 30% on imports of foreign steel)
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
Whether the gains to the government and domestic producers exceed the losses to the domestic consumers depends on various factors: amount of tariff, the importance of the imported good, the number of jobs saved in the protected industry, etc.
In the steel case of U.S., the consumers were the losers. WTO in November 2003 declared that tariffs represented a violation of the WTO Treaty and hence USA removed tariffs in that year in December.
E.g. of reducing economic efficiency: South Korea and production of rice at home country than anywhere else (low-cost producers). This points to inefficient use of resources. The land could have been used for growing other foodstuff, or residential or industrial purposes, that cannot be produced more efficiently elsewhere.

5. Instruments Of Trade Policy
Export Tariffs
These are far less common than import tariffs
In general export tariffs have two objectives:
to raise the revenue of the government and
to reduce exports from a sector, often for political reasons
Example: In 2004, China imposed a tariff on textile exports. The primary objective was to moderate the growth in exports of textiles from China, thereby alleviating tensions with other trading partners.

6. Instruments Of Trade Policy
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
Example: Developed nations gave
$45 billion subsidies to their automobile
makers during the global financial crisis
between mid 2008 and early 2009.
Subsidies are government payments to domestic producers. They can be in the form of:
Cash grants
Low-interest loans
Tax breaks
Government equity participation in the company
Subsidy revenues are generated from taxes.
Subsidies encourage over-production, inefficiency and reduced trade.

7. Instruments Of Trade Policy
Import quotas directly restrict the quantity of some good that may be imported into a country. The restriction is usually imposed by issuing import licenses to a group of individuals or firms.
Example: USA on cheese import
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.
Example: Tariff rate quotas are common in agriculture.
Voluntary export restraints are quotas on trade imposed by the exporting country, typically at the request of the importing country’s government.
Example: USA on Japanese government on the export of automobiles.

8. Tariff Rate Quota

9. Quota Rent
A quota rent is the extra profit that producers make when supply is artificially limited by an import quota
Import quotas and voluntary export restraints benefit domestic producers by limiting import competition, but they raise the prices of imported goods

10. Instruments Of Trade Policy
A local content requirement demands that some specific fraction of a good be produced domestically
The requirement can be expressed either in physical terms (e.g. 75% of component parts of the product must be produced locally) or in value terms (e.g. 75% of the value of the product must be produced locally)
Local content requirements benefit domestic producers, but consumers face higher prices

11. Instruments Of Trade Policy
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
Examples: Japanese are the masters of this trade barrier. Tulip bulb exported from Netherlands to Japan is an example.

12. Instruments Of Trade Policy
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
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

13. Political Arguments For Government Intervention
Political arguments for government intervention include:
Protecting jobs
Common Agricultural Policy (CAP) by the European Union (EU)
Protecting industries deemed important for national security
E.g. defense related industries (aerospace, semiconductor, advanced electronics)
Retaliating to unfair foreign competition
USA trade sanctions against China
Protecting consumers from “dangerous” products
Ban on beef from USA by Japan and South Korea (2003)

14. Political Arguments For Government Intervention
Furthering the goals of foreign policy
Preferential trade terms to build strong relations
Trade policy to punish rogue states
Protecting the human rights
US government trade sanctions against Myanmar due to its poor human rights practices.
US Secretary of State Rex Tillerson (L) and Myanmar's State Counselor Aung San Suu
Source:

15. Economic Arguments For Intervention
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
Example: Brazilian Automobile Industry
Oldest argument - Alexander Hamilton, 1792.
Protected under the WTO.
Only good if it makes the industry efficient.
Brazil auto-makers - 10th largest - wilted when protection was eliminated.
Requires government financial assistance.
Today if the industry is a good investment, global capital markets would invest.

16. Economic Arguments For Intervention
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
Example: US government gave substantial R&D grant to Boeing in the 1950s and 1960s. Government of Great Britain did the same for Airbus.

17. Development Of The World Trading System
WTO: Experience To Date
Since its establishment, the WTO has emerged as an effective advocate and facilitator of future trade deals, particularly in such areas as services
So far, the WTO’s policing and enforcement mechanisms are having a positive effect
Most countries have adopted WTO recommendations for trade disputes
The WTO:
Had 145 members in 2003
Represents 90% of world trade
Settles 9 of 10 disputes satisfactorily
Reduced tariff from 40% to 5%
Saw trade volume of manufactured goods has increased 20 times

18. Development Of The World Trading System
WTO: Experience To Date
The 1999 meeting of the WTO in Seattle was important not only for what happened between the member countries, but also for what occurred outside the building
Inside, members failed to agree on how to work toward the reduction of barriers to cross-border trade in agricultural products and cross-border trade and investment in services
Outside, the WTO became a magnet for various groups protesting free trade

19. The Future Of The WTO: Unresolved Issues And The Doha Round
The current agenda of the WTO focuses on:
the rise of anti-dumping policies
The WTO is encouraging members to strengthen the regulations governing the imposition of antidumping duties
the high level of protectionism in agriculture
The WTO is concerned with the high level of tariffs and subsidies in the agricultural sector of many economies

20. The Future Of The WTO: Unresolved Issues And The Doha Round
the lack of strong protection for intellectual property rights in many nations
TRIPS (Trade-Related Aspects of Intellectual Property Rights) obliges WTO members to grant and enforce patents lasting at least 20 years and copyrights lasting 50 years
continued high tariffs on non-agricultural goods and services in many nations
The WTO would like to bring down tariff rates on nonagricultural goods and services, and reduce the scope for the selective use of high tariff rates

21. The Future Of The WTO: Unresolved Issues And The Doha Round
The WTO launched a new round of talks at Doha, Qatar in 2001
The agenda includes:
cutting tariffs on industrial goods and services
phasing out subsidies to agricultural producers
reducing barriers to cross-border investment
limiting the use of anti-dumping laws
This feature explores the results of a study by the Institute for International Economics. The study, which estimated the gains to the American economy from free trade, found that America’s GDP was more than 7 percent higher as a result of reductions in trade barriers than it would have been if the barriers remained. The study also estimated that if tariffs were reduced to zero, significant gains would still result.
Suggested Discussion Questions
1. What does the Institute for International Economics suggest about the benefits of free trade?
Discussion Points: The Institute for International Economics found that thanks to reductions in trade restrictions, America’s GDP was up. The Institute also estimated that even greater gains in the country’s GDP would occur if protectionism was eliminated all together. Students should recognize that these findings follow the principles of Adam Smith and David Ricardo and suggest that free trade is beneficial.
2. According to the Institute for International Economics study, a move toward free trade would cause disruption in employment. Is it still worth pursuing free trade if it means that some people lose their jobs?
Discussion Points: This question should prompt a strong debate among students. Some students will probably suggest that the costs in terms of lost wages and benefits associated with free trade outweigh the benefits that would be gained. Other students however, will probably argue that since protectionism typically benefits only a few at the expense of others, while free trade generates greater economic growth and higher wages, a free trade policy should be followed.
Teaching Tip: The Web site for Institute for International Economics is available at {