ECON3315 – International
Economic Issues
Instructor: Patrick M. Crowley
Issue 2: Protectionism
Overview
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Patterns of trade: review
Protectionism
Analysis of tariffs and quotas
US quotas
US tariffs
Protectionism in the rest of the world
Multilateralism vs bilateralism
Trade diversion vs trade creation
Case studies
Patterns of trade
Recapping from last time…
 Who you trade with is in theory determined by the Gravity
model – closer and larger they are, more you trade with
them
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What you trade is determined by comparative advantage
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In theory comparative advantage depends on:
- labor productivity (Ricardo)
- Factor endowments (H-O)
- Natural resources
- Economies of scale (Krugman)
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Many countries (including the US) are not willing to let free
trade decide what they produce, so resort to
“protectionism”
How has trade changed over time?
Protectionism
Protectionism can take many forms, the most
common of which are:
 Tariffs – placing a “tax” on an import (e.g. steel)
 Quotas – limiting the amount of product that can
be imported (e.g. autos)
 Voluntary export restraints – equivalent to quotas,
but agreed to by exporting country
 National standards – deciding on certain standards
(e.g. mobile phones)
 Government procurement rules – these often favor
domestic producers (e.g. Malaysia)
In most cases these measures i) hurt the consumer,
ii) benefit the domestic producer and iii) limit
competition.
Analysis of tariffs and quotas
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Most US tariffs and quotas are on selected goods and
services – analysis by Jacob Viner in 1950s
A tariff of x% is equivalent to an import quota of m as the
quota will raise prices
Analysis of tariffs and quotas
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Before protectionist measure, M=Q0-S0, price =
P0, domestic producers supply S0
Tariff raises prices by (P1-P0) – equivalent quota
is Mbar
Loss of consumer surplus = A+B+C+D
Gain in producer surplus = A
Gain in government revenue = C
Net welfare loss(tariff)=A+C-(A+B+C+D)
= -(B+D)
Net welfare loss(quota)=A-(A+B+C+D)
=-(B+C+D)
Transfer to foreigners(quota) = C
Global loss(quota) = -(B+D)
Analysis of tariffs and quotas
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That is the end of the story if the country is
small…but US is not small!
If the country is large ( - like the US, losses can
be greater)…
Analysis of tariffs and quotas
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With free trade, equilibrium is at P0 and M0
When US adopts protectionist measure, foreign
suppliers gain “rents” of C+E (E represents extra
profit from being able to charge higher prices to
other countries)
But loss now also includes producer surplus loss
E and F, as world prices change
So net loss for foreign suppliers=(C+E)-(E+F)=CF
So C is the gain in profits from higher prices in
the US, and F is the “deadweight loss” (loss in
efficiency)
Analysis of tariffs and quotas
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Summary of analysis for selected
products:
Tariffs and quotas used by the US
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Autos – VERs from Japan
Dairy & sugar – quotas
Steel & clothing – VER
Increased prices in the US for autos from Japan
also allowed European auto makers to raise
prices
Quota rents are earned by foreign firms
Likely that foreign welfare is increased by quotas
Loss to US is roughly 0.75% of GDP
Also could be that foreign firms sell more
products of higher quality to remain competitive
– that means effective protection of US firms
actually lower, and also that less quota rents
gained by foreign firms
US quotas
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For both sugar and textiles, foreign countries
appear to have losses from the US quotas
Quotas are often allocated to different countries,
and can often favor the less efficient producers
(e.g. steel)
VERs usually require licenses to be distributed to
foreign firms, and this can also mean efficiency
losses
Many foreign auto firms set up plants in the US
specifically to avoid the quotas applied to imports
US tariffs
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Average US tariff<2%, but tariffs on industrial products low
(0.8%), and high on consumer goods (10.5%)
Shoes and clothes bring in roughly 50% of tariff revenues
US tariffs
Tariffs
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Higher on cheaper
goods than on
luxuries – clearly
depends where the
competition is, and
the effectiveness of
lobbying
Tariffs
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Tariffs paid on goods imported from countries
where US already has a trade pact are low
For others, the rates can be quite high
Protectionism in the rest of the world
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Developing countries, in particular, have very
high tariff rates
Because of high Indian tariff rates, Nepal (north
of India) exports more to the US than it does to
India
EU as well has many restrictive tariffs and quotas
But benefits of free trade should make it
advantageous to eliminate protectionist
measures, irrespective of what other countries do
Protectionism in the rest of the world
Multilateralism vs bilateralism
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The General agreement on trade and tariffs (GATT)
originally had as it’s aims the elimination of tariffs and
quotas on a multilateral basis. The GATT is now part of
the WTO.
Many countries became frustrated though with the slow
pace so negotiated bilteral free trade agreements
In Europe this happened in the 1990s and has given rise
to a “spaghetti bowl” effect
In Asia this is currently in train and has been labelled a
“noodle bowl” effect
US has trade agreements with Australia, Bahrain, Chile,
Columbia, Israel, Jordan, Malaysia, Morocco, Oman,
Panama, Peru, Singapore
Multilateralism vs bilateralism
Trade creation vs trade diversion
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If a bilateral agreement is made, then lower
prices for g&s that the countries trade
Leads to inefficiencies if the lowest cost provider
is not one of these countries – known as “trade
diversion”
Leads to more trade between the countries which
is known as “trade creation”
In a way these bilateral trade deals are
protectionist, but depending on the amount of
trade diversion
Case studies
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Steel
Sugar