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Instruments of Trade Policy
• tariffs – levied on imports; oldest, most successful in limiting o specific tariffs o ad valorem tariffs – levied as a proportion of the value of an imported good
• subsidies – gov’t payment to a domestic producer !
i.e. gov’t loan o agriculture – largest beneficiary o competitive advantage – produces first-mover advantages
• import quotas & voluntary export restraints o tariff rate quota – lower tariff rate for imports within quota o voluntary export restraint (VER) – quota on trade imposed by the exporting country o quota rent – extra profit that producers make when supply is artificially limited by an import quota
• local content requirements – a fraction of the good must be produced domestically; component terms or value terms
• administrative policies – bureaucratic rules designed to make it difficult for imports to enter a country – Japanese master’s of this one
• antidumping policies – to punish firms that engage in dumping to protect domestic producers from competition – selling goods in a foreign market below their costs of production or below their “fair” market value !
countervailing duties (special tariff) – up to 5 years o can be used to drive out competitor then raise prices
The Case for Government Intervention
• political arguments – concerned w/ protecting the interests of certain groups within a nation (producers), often at the expense of other groups (consumers) o protecting jobs & industries o national security – protecting industries that may contribute to national defense !
i.e. semiconductor industry o retaliation – bargaining tool !
i.e. U.S. forcing China to adopt intellectual property laws o protecting consumers !
i.e. South Korea & Japan banning U.S. beef cause of mad cow disease breakout o further foreign objectives – to build strong relations or to bring down a rogue country !
i.e. Cuba o protecting human rights

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• flow of FDI – amount undertaken over a given period of time
• stock of FDI – total accumulated value of foreign-owned assets at a given time
Foreign Direct Investment in the World Economy
• trends in FDI – increased in both flow & stock o faster than world trade & world output
" firms still fear protectionist pressures – FDI goes around that
" world shift to democracy & free market economies
" globalization
" dip in 2009
• the direction of FDI o 1990’s – majority U.S. (after WW2) !
later European Union
(developed) o FDI targeted to developed nations is still majority, but developing is now increasing
" mainly Asia !
China, then Latin America
" Africa receives the least due to political unrest
• the sources of FDI o U.S., UK, France, Germany, the Netherlands, & Japan !
60% o China is rising up !
mainly investing in developing – Africa, to get closer to raw materials
• the form of FDI: acquisitions vs. greenfield investments o 1998-2010 – majority acquisitions – except in developing
Theories of Foreign Direct Investment
• electric paradigm – argument that combining location specific assets/resource endowments & the firm’s own unique assets often requires FDI o requires the firm to establish production facilities where those foreign assets or resource endowments are located
• why FDI instead of exporting or licensing when it’s more risky & expensive o limitations of exporting
" transportation costs & trade barriers – doesn’t have to be both o limitations of licensing
" internalization theory – market imperfections – explanation of why firms prefer FDI over licensing for entering foreign markets
# drawbacks of licensing
giving away technological know-how to competitor
no control over ops. to maximize profitability

the firms skills are not amenable to licensing
• the pattern of FDI o strategic behavior – reflection of strategic rivalry between firms
" interdependence between firms in an oligopoly !
imitate
" multipoint competition – different areas
" does not explain why they chose FDI or if it’s more efficient !
internalization theory does o the electric paradigm – Dunning – includes location-specific advantages
" combining firm’s assets w/ location endowments
# externalities – knowledge spillovers
Political Ideology & FDI
• the radical view – Marxist o multination enterprise (MNE) !
imperialist domination
" the host doesn’t reap benefits
" retreat because of the collapse of communism, & they saw that it actually promotes economic growth
• the free market view – Adam Smith & David Ricardo o MNE disperses production of goods & services to the most efficient locations !
i.e. Dell using Mexico’s low labor costs o no one has purely adopted this principle
• pragmatic nationalism – FDI has benefits & costs associated to it o tax breaks
• shifting ideology – towards free market view o few incidents of hostile approach to FDI
Benefits & Costs of FDI
• host-country (receiving) benefits o resource-transfer effects – contribution to host economy by supplying capital, technology, & mgmt. resources o employment effects – brings jobs to the host that wouldn’t have otherwise been created
" direct – when MNE employs host-country citizens
" indirect – jobs created in local suppliers & because of increased local spending by employees of MNE (larger)
" could even increase quality of job – higher pay than domestic o balance of payments effects

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Levels of Economic Integration
• free trade area – all barriers removed among member countries o most common !
almost 90% o European Free Trade Association (EFTA) – 4 countries
" free trade in industrial goods, agriculture left out o NAFTA
• customs union – eliminates all barriers of trade & adopts common external trade policy !
i.e. Andean Community
• common market – eliminates all barriers, adopts common external trade policy, & allows factors of production to move freely among members o labor & capital free to move due to lack of restrictions o high level of cooperation & harmony !
i.e. Mercosur
• economic union – all of the above & requires a common currency, harmonization of members’ tax rages, & a monetary & fiscal policy o sacrifices sovereignty o i.e. EU !
not perfect, not everyone has adopted Euro, still tax diff.
• political union – central political apparatus that coordinates economic, social,
& foreign policy o i.e. the U.S. !
the EU is close
The Case for Regional Integration
• the economic case for integration o motivated by a desire to exploit the gains from free trade & investment
• the political case for integration o reduces potential for violent conflicts & enhances their political weight in the world
• impediments to integration o although countries may benefit as a whole, they face costs
" i.e. Canada & U.S. employees lost their jobs – adjustments of
NAFTA o concerns over national sovereignty
" losing some degree of control on key issues
The Case Against Regional Integration
• only beneficial if trade creation exceeds trade diversion (lower-cost suppliers replaced by higher-cost suppliers) o GATT & WTO do not cover some nontariff barriers
• only way it would work is if WTO covers all nontariff barriers