CHAPTER 10 PROBLEMS
1.
The Japanese example gives pause to those who believe that protectionism is
always disastrous. However, the fact of Japanese success does not demonstrate that
protectionist trade policy was responsible for that success. Japan was an
exceptional society that had emerged into the ranks of advanced nations before
World War II, and was recovering from wartime devastation. It is arguable that
economic success would have come anyway, so that the apparent success of
protection represents a "pseudo-infant-industry" case of the kind discussed in the
text. Two of the industries that many people most strongly associated with Japan’s
success, automobiles and consumer electronics, were not among those favored by
Japanese industrial policy.
2. a. The initial high costs of production would justify infant industry protection if the
costs to the society during the period of protection were less than the future stream
of benefits from a mature, low cost industry. But this is, of course, the same
problem faced by any new firm. Most new entrants obtain private financing. Those
who argue for infant-industry protection must show that there is a failure of the
capital markets to finance sound investment ideas.
If this market failure exists, then the best policy would be to correct this failure by
establishing capital markets. If this cannot be done, then financing might be
encouraged by, say, government loan guarantees or direct loans from the
government. Trade barriers to protect the infant industry would be a second-best
solution, at best. Once such protection is provided, it may be politically very
difficult to remove. There are many examples of industries that received protection
that have never matured, such as steel or automobiles in India, or worsted wool in
the US.
b. An individual firm does not have an incentive to bear development costs itself for
an entire industry when these benefits will accrue to other firms. There is a
stronger case for infant industry protection in this instance because of the existence
of market failure in the form of the inappropriability of the benefits from
technological progress.
3.
Import substitution policies rely on the protected home market to develop new
industries. Countries like Brazil have larger markets. Some firms or industries
there could realize economy of scale selling to the domestic market. Of course, this
assumes that the problem of too many entrants, as encountered in Argentina’s
automobile market, can be avoided. The market of Ghana would probably be too
small to realize either internal or external scale economies.
4.
The value of the marginal product of labor in the production of food is 9 x $10 =
$90.
a. The wage will be equated in each sector when there are no distortions. This occurs
when there are 8 workers in manufacturing and 12 in food production. The wage
of all workers will be $90. The output of each sector can be found by calculating
the area under the marginal product of labor curves. This curve is a horizontal line
for food, so output in this sector is 12 x 9 = 108. Summing the area under the MPL
curve for manufacturing up to 8 workers results in output of 110.
b. Manufacturing output shrinks to 3 workers, and there are 17 workers in the food
sector. Food output now equals 153 while manufacturing output equals 54. The
cost of the distortion equals the value of output lost, which is $110.
c. The probability of being employed is 1 - (n+3/n) = 3/n where n is the number of
city workers. Workers will migrate to the city until the wage times the probability
of being employed equals the wage offered in the rural area with certainty. There
will be 5 workers in manufacturing, 15 workers in agriculture, and 2 unemployed
workers. The output of the manufacturing sector is 54 and for food is 135.
5.
Under these circumstances, workers are both "pulled" into the urban, "modern"
sector by the lure of high wages and "pushed" from the rural areas due to stagnant
conditions in the agricultural sector. To correct this problem of the bias toward the
urban-manufacturing sector, explicit attention should be paid to making the
agricultural sector more rewarding, In order to retain labor, the agricultural sector
might be provided with wage subsidies so that the rural-urban wage gap is
reduced. Policies can also be targeted at promoting light rural enterprise and
agricultural investment which would increase wages through increasing worker
productivity. In addition, development of the rural infrastructure and social
services might increase the relative attractiveness of the countryside.
6.
Import quotas on capital-intensive goods and subsidies for the import of capital
equipment foster the development of a capital intensive sector, and thus of a dual
economy. If the capital-intensive sector pays high wages relative to the traditional
sector, the result may be rural-urban migration and the emergence of persistent
urban unemployment.