Business-Government
Trade Relationships
6-1
No country permits unregulated flow of
goods and services across its borders
• Governments place restrictions on imports
and occasionally on exports
• Governments may provide direct and
indirect subsidies to improve the
competitive position of some industries
Protectionism
• Government action intended to limit foreign
producer’s ability to compete with domestic
industry
Rationale for Government
Intervention
Economic Rationales
Non-economic
Rationale
Prevent unemployment
Maintain essential industries
Protect infant industries
Deal with unfriendly countries
Promote industrialization
Maintain spheres of influence
Improve position compared to
other countries
Preserve national identity
6-4
Infant-Industry Argument
• Government should guarantee an emerging
industry a large share of the domestic market
until it becomes efficient enough to compete
against imports
• Initial output costs may make products
noncompetitive in world markets
• Over time costs will decrease due to:
–greater economies of scale
–greater worker efficiency
Problems with argument
• Hard to identify industries with high
probability of success
–even when industries can be identified,
not clear that government should
provide protection
• Protection may serve as disincentive for
managers to adopt innovations needed to
become competitive
• Public funds poorly spent
• Consumer prices rise
Industrialization Argument
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Industrialization represents high per
capita income
Most developing countries try to emulate
strategy of developed countries
• Surplus workers can more easily increase
manufacturing output than agricultural output
• Inflows of foreign investment can promote
sustainable growth
• Prices and sales of agricultural products and
raw materials fluctuate
6-5
Industrialization Argument, con’t
• Markets for industrial products grow
faster than markets for agricultural
products
• Local industry reduces imports and
promotes exports
• Industrial activity helps the nation
building process
6-6
Economic Motives
Potential results
Pursue strategic
trade policy
Help companies
achieve economies of
scale and gain a firstmover advantage
+ Global industry created
– Firms’ efficiency reduced
– Domestic costs increase
– Special interests benefit
Non-economic Rationales for
Government Intervention
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Maintenance of essential industries
Prevention of shipments to unfriendly
countries
Maintenance or extension of spheres
of influence
Protecting activities that preserve
national identity
6-8
Maintaining Essential Industries
Protecting domestic industries during peacetime
so that country is not dependent on foreign
sources of supply during war
• Popular argument to support import restrictions
• Countries must
– determine which industries are essential
– consider costs and alternatives
– consider political consequences
Dealing with “Unfriendly” countries
Prevention of exports that might be acquired by
potential enemies
• May lead to retaliation that prevents securing other
essential goods
• Trade controls on nondefense goods also may be
used as a weapon of foreign policy
Maintaining Spheres of Influence
Governments may:
• Provide aid and credits to, and encourage
imports from, countries that are political allies
• Impose trade restrictions to coerce foreign
countries to follow certain political actions
Preserving Cultures and National Identity
Countries have a common sense of identity that
separates them from other nationalities
• May limit foreign products and services to
protect their separate identity
Trade Promotion and Restriction
Trade promotion
methods
 Subsidies
 Export financing
 Foreign trade zones
 Special government agencies
Trade restriction
methods
 Tariffs
 Quotas
 Embargoes
 Local content requirements
 Administrative delays
 Currency controls
 Antidumping policy
Instruments of Trade Policy:
Subsidies

Government payment to a domestic
producer
•
•
•
•
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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
Subsidies
Potential results
+ Increased competitiveness
– Encourage inefficient firms
– Increased consumer prices
– Overuse of resources
• Subsidies—direct government payments to domestic
companies to compensate them for losses incurred from
selling abroad
– other types of government assistance makes it
cheaper or more profitable to sell abroad
» potential exporters provided with an array of
services
– subsidies to overcome market imperfections are least
controversial
– there is little agreement on what a subsidy is
– there has been a recent increase in export-credit
assistance
• Aid and loans—given to other countries with the
proviso that the funds be spent in the donor country
– repayment insurance for exporters
Export Financing
Financing such as low-interest loans and loan guarantees
Export-Import Bank of the United States
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Working capital loan guarantees
Credit information on nation or firm abroad
Export credit insurance against loss
Loan guarantees to buyers of U.S. goods
and much more…
Foreign Trade Zones
 Designated geographic region in
which merchandise is allowed to
pass through with lower customs
duties (taxes) and/or fewer
customs procedures
 Purpose is to increase
employment and trade
within the nation
Special Government Agencies
Organize trade missions for officials
and businesses
Operate export-promotion offices at
locations abroad
Help import products the home nation
does not produce
Instruments of Trade Policy:
Tariffs

Tariffs are the oldest form of trade
policy; they fall into two categories
• Specific tariffs are levied as a fixed charge for
each unit
• Ad valorem tariffs are levied as a proportion of
the value of the imported good
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Tariffs are good for government
because they generate revenue
Tariffs protect domestic producers but
they reduce efficiency
Tariffs are bad for consumers because
they increase the cost of goods
Tariffs
Potential results
 Export tariff
+ Protect domestic firms
 Transit tariff
from competitors
+ Generate income for the
government
 Import tariff
– Reduce competitiveness
of home-based firms
– Raise consumer prices
Import and Export Quotas
Restriction on the amount of a good that can enter
or leave a country during a certain period of time
Import Quotas
1.
Protect domestic
producers of a good
2.
Force outside firms to
compete for market
access
Export Quotas
1.
Retain an adequate
domestic supply of a
product
2.
Restrict world supply of a
product to raise its price
Embargoes
Complete ban on trade (imports and exports)
in one or more products with a particular country
Most restrictive
nontariff trade
barrier
Often used to
achieve political
goals
Can be difficult
for a nation to
enforce
Local Content Requirements
Laws that domestic producers
must supply a specific amount
of a good or service
Forces international companies to
employ local resources (usually labor)
in production process
Administrative Delays
Regulatory controls or
bureaucratic rules to slow
imports into a country
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Inconvenient ports for imports
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Product-damaging inspections
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Understaffed customs offices
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Lengthy licensing procedures
Currency Controls
Restrictions on the
convertibility of a nation’s currency
Limit the amount of
globally accepted
currency available to
pay for imports
Set an unfavorable
exchange rate when
paying for imports
Instruments of Trade Policy:
Antidumping Policies
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Defined as
• Selling goods in a foreign market below
production costs
• Selling goods in a foreign market below fair
market value
Result of
• Unloading excess production
• Predatory behavior
Remedy: seek imposition of tariffs
General Agreement on Tariffs and
Trade (GATT)
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Formed in 1947 by 23 countries to abolish
quotas and reduce tariffs
Laid the foundation to liberalize world
trade
Required members to open markets
equally to every other member
However, it could not enforce compliance
The World Trade Organization replaced
GATT in 1995
6-12
World Trade Organization (WTO)
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150 current members (>90% of trade)
Adopted the principles and trade
agreements of GATT
Expanded to cover trade in
• Services
• Investment
• Intellectual property
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Governments bring charges of unfair trade
practices to the WTO
WTO rulings are binding
6-13
Dealing with Governmental Trade
Influences

Companies can:
• Move operations to a lower-cost country
• Concentrate on markets that attract less
international competition
• Adopt internal innovations
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Increase efficiency
Superior products
• Try to get government protection
6-14