1. Reinert/Windows on the World Economy, 2005 Trade Policy Analysis CHAPTER 6

2. Reinert/Windows on the World Economy, 2005 2 Introduction Reasons to expect landowners in Japan might oppose the import of rice from another country Opposition to imports exists despite overall gains to Japan from these imports Trade policy analysts and international affairs professionals are often called upon to assess impacts of government interventions in international trade Purpose of chapter is to understand how the assessments are made

3. Reinert/Windows on the World Economy, 2005 3 Figure 6.1 Absolute Advantage and Trade in the Rice Market

4. Reinert/Windows on the World Economy, 2005 4 Absolute Advantage Revisited In moving from autarky to trade in Figure 6.1, there is a reduction in domestic quantity supplied in Japan  Japanese rice-producing firms would lobby Japanese government to oppose decrease in domestic quantity supplied Demand protection from Vietnam exports Protective policies are widespread in world economy

5. Reinert/Windows on the World Economy, 2005 5 Trade Policy Measures A country can grant import protection to a sector of its economy in form of either  Tariffs Tax on imports  Specific tariff is a fixed tax per physical unit of the import  Ad valorem tariff is a percentage tax applied to value of import  Non-tariff measures  Governments employ both types of tariffs

6. Reinert/Windows on the World Economy, 2005 6 Non-Tariff Measures An inclusive category of many kinds of trade policy measures including  Prohibitions and quantitative restrictions (import quotas) on imports  Tariff rate quotas Lower (higher) tariff for levels of imports within (above) the quota  Trigger-price mechanisms Market floor prices that “trigger” government interventions to curtain imports  Technical barriers to trade Support health and safety concerns—may be legitimate but can be a disguised form of import protection  Anti-dumping duties—charges imposed on imports deemed by imposing government to have been sold at “less than fair value” by exporter  Countervailing duties—tariff-like charges imposed on imports deemed by imposing government to have been “unfairly” subsidized by exporting country government

7. Reinert/Windows on the World Economy, 2005 7 A Tariff For our graphical analysis in this chapter, it is much simpler to consider a specific tariff Basic results also apply to an ad valorem tariff A tariff increases domestic price of imported product above world price  In the case of Japanese rice, domestic price is many times larger than world price Causes an increase in Japan’s production of rice which is desired effect from Japanese rice farmers  Domestic consumption of rice falls  Imports fall

8. Reinert/Windows on the World Economy, 2005 8 Figure 6.2: A Tariff on Japan’s Imports of Rice

9. Reinert/Windows on the World Economy, 2005 9 Tariff Effects Welfare and revenue effects also occur from the tariff Consumer surplus of Japanese households fell  Japanese rice consumers are paying more and consuming less Producer surplus of Japanese firms has increased  Japanese rice producers are receiving more for their product and producing more Japanese government is receiving revenue from import tax

10. Reinert/Windows on the World Economy, 2005 10 Net Welfare Effect Summarizes welfare impact of policy for the country as a whole  From an economic standpoint, tariff hurts Japanese society as a whole  Although it benefits producers and government, losses imposed on consumers outweigh benefits

11. Reinert/Windows on the World Economy, 2005 11 Terms of Trade Effects When Japan imposes a tariff on its imports from Vietnam, amount of these imports decreases  As Japan’s imports of rice decrease, there will be excess supply in the world market for rice Will cause the world price to fall Since Japan is importing rice, this is a good thing for this country

12. Reinert/Windows on the World Economy, 2005 12 Figure 6.3 The Terms-of-Trade Effect of Japan’s Tariff

13. Reinert/Windows on the World Economy, 2005 13 A Quota Import quota—a quantitative restriction on imports Type of non-tariff measure A quota results in a shortage of a good relative to initial situation without quota, causing price of good to rise  Known as quota premium  Consumer surplus falls and producer surplus increases

14. Reinert/Windows on the World Economy, 2005 14 Figure 6.4 A Quota on Japan’s Rice Imports

15. Reinert/Windows on the World Economy, 2005 15 A Quota Policy usually administered via a system of import licenses Quota has restricted supply of import licenses Extra value of the right to import an amount of a good  Known as quota rents Who receives rents depends on how quota licenses are allocated  Import licenses are allocated to domestic importers  Quota rents accrue to importers, so they remain within the country  A gain to Japan  Import licenses are allocated to foreign exporters  Quota rents accrue to exporters, so they leave the country  A loss to Japan

16. Reinert/Windows on the World Economy, 2005 16 A Quota Net welfare effect of the quota is just like a specific tariff In the case of import licenses allocated to foreign exporters this represents a transfer from domestic consumers to these foreign exporters  Does not result in a net loss of zero, because loss to consumers is not offset by a gain to domestic importers Net welfare effect is gain to firms less loss to consumers  In this case quota is worse than a tariff

17. Reinert/Windows on the World Economy, 2005 17 Quota Decision Suppose you were a government official administering quota policy  Which alternative would you choose? A quota allocated to domestic importers or quota allocated to foreign exporters?  Probably quota allocated to domestic importers  Has smaller welfare loss However governments often choose a foreign allocated quota. Why?  They are uninformed about economic implications of their choices  Political considerations cause such a choice

18. Reinert/Windows on the World Economy, 2005 18 Summary of Trade Policies Tariff  Unambiguous net welfare loss due to consumer surplus loss outweighing gains in producer surplus and government revenue Tariff with terms of trade effects  Ambiguous net welfare effect due to terms of trade gain (fall in world price) potentially outweighing efficiency loss Domestic-allocated quota  Unambiguous net welfare loss due to consumer surplus loss outweighing gains in producer surplus and quota rents Foreign-allocated quota  Unambiguous net welfare loss that exceeds that of domestic- allocated quota case

19. Reinert/Windows on the World Economy, 2005 19 Comparative Advantage Models In many instances effects of trade policies go beyond a single sector Protecting a large sector such as automobiles can draw resources from other sectors into the protected automobile sector  Perhaps workers in metal furniture sector will move into automobile sector as it expands under protection In these cases, trade policy analysts turn to models of comparative advantage  Analyzes more than one sector simultaneously Much more complicated than absolute advantage models