International

Economics I
(Econ
3081)
International Economics I (Econ 3081)
(BA Degree
in
Economics) (BA Degree in Economics)
Chapter 3:
Interna- Chapter 3: International Trade Policy
tional Trade
Policy
Mengesha
Yayo Mengesha Yayo (Ph.D.)
(Ph.D.)

International
Trade
Policy AAU, Department of Economics
Arguments December , 2021
in Favor of
and
Against
Trade
Protection
The In-
struments
 Contents

International
Economics I
(Econ
3081)
(BA Degree 1 International Trade Policy
in
Economics) Arguments in Favor of and Against Trade Protection
Chapter 3:
Interna- The Instruments of Trade Policy
tional Trade
Policy Trade Policy and Economic Welfare

Mengesha Optimum Tariff rate

Yayo Non – Tariff Barriers (NTBs) to Trade
(Ph.D.)
Export and Quntitative restriction
International The Political Economy of Trade Policy
Trade
Policy The Process of Trade Liberalization
Arguments
in Favor of Intellectual Property Rights (IPRs)
and
Against
Trade
Protection
The In-
struments
 Introduction

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3: On almost a daily basis, there are articles in newspapers in
Interna-
tional Trade which someone or some group is arguing for the imposition of
Policy
protection against imports of goods and services.
Mengesha
Yayo
Many of these arguments have a long and colorful history and,
(Ph.D.) surprisingly, continue to influence policymakers and the general
public.
International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Introduction

International
Economics I
(Econ
3081) The following statements provide examples of the kind of arguments one
(BA Degree continues to encounter on a regular basis:
in
Economics) A 15 percent revenue tariff on all imported manufactures and goods
Chapter 3: in competition with American made goods would be a fitting way to
Interna- declare our economic independence. (Patrick J. Buchanan, 1998)
tional Trade I do not know much about the tariff, but I know that when we buy
Policy
our own products we get both the goods and the money, but when
Mengesha we import goods we get the goods and the exporting country gets
Yayo the money. (A statement often attributed to Abraham Lincoln)
(Ph.D.) We should subsidize smokestacks and erect tariffs to protect our
manufacturers from foreign competitors. (Eamonn Fingleton, In
International Praise of Hard Industries)
Trade We need to impose tariffs and quotas to protect our manufacturers
Policy
Arguments from cheap foreign labor.
in Favor of It is important to restrict imports in order to stop the hemorrhaging
and of employment and the exports of U.S. jobs to the rest of the world
Against
Trade
Protection
The In-
struments
 Introduction

International
Economics I
(Econ
3081)
(BA Degree
in Which of these arguments have economic merit? Which do not?
Economics)
Chapter 3: Obviously the public and its representative elected officials are
Interna- prone to be influenced on this matter because various groups
tional Trade
Policy in the United States and other countries spend millions of
Mengesha
dollars each year in an attempt to influence policymakers to
Yayo enact legislation that will restrict international trade.
(Ph.D.) Given that, in principle, most economists at least agree that
trade increases the overall well-being of a country, it is striking
International to note how much individual interests are willing to spend to
Trade
Policy reduce international trade.
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Trade policy

International
Economics I
(Econ
3081)
(BA Degree
in
Economics) Trade policy is often conducted as a component of a policy package
Chapter 3: that is directed toward improving the well-being of different groups
Interna-
tional Trade in society or reaching certain national and international objectives.
Policy From this perspective, trade restrictions are promoted to the
Mengesha publicat large in terms of, for example, influencing income
Yayo distribution, strengthening national defense, maintaining global
(Ph.D.)
power, and fostering international equity.
International Trade policy instruments are part of a broader social policy
Trade package that affects the nation as a whole
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Trade Taxes as a Source of Government Revenue

International
Economics I
(Econ
3081) For many countries, consumption taxes are an important source of
(BA Degree government revenue.
in This is particularly true in those cases in which it is difficult for
Economics) governments to effectively use taxes on income and property to
Chapter 3: generate the needed revenue to finance public expenditures
Interna-
tional Trade In this instance, governments often turn to trade taxes along with
Policy other domestic sales taxes to generate needed revenue.
The decision to use trade taxes, as opposed to other forms of
Mengesha
Yayo taxation, to fund government expenditures in this broader social
(Ph.D.) context turns on issues of tax efficiency and equity.
In certain large-country settings, it is also possible that countries
International may be able to shift some of the incidence of the tax to trading
Trade partners.
Policy This case clearly illustrates how the broader social policy
Arguments objective of earning revenue dominates and might well result
in Favor of
and in the imposition of trade taxes as a part of a set of broad
Against government revenue policies.
Trade
Protection
The In-
struments
 Trade Taxes as a Source of Government Revenue

International
Economics I
(Econ
3081) In the longer term, however, changes in the institutional setting that
(BA Degree
in will permit the inclusion of a broader tax base (including property
Economics) and income) will likely prove to be more beneficial to the country.
Chapter 3:
Interna- In the case of the United States, trade taxes provide an extremely
tional Trade small portion of total government revenue today, whereas prior to a
Policy
century ago, trade and consumption taxes were the principal source
Mengesha of government revenue and income and property taxes were
Yayo
(Ph.D.) considerably less important.
It is worth noting, however, that trade taxes continue to be an
International important source of government revenue for many countries in the
Trade
Policy world.
Arguments Not surprisingly, the majority of these countries are in the
in Favor of
and developing world.
Against
Trade
Protection
The In-
struments
 Trade Taxes as a Source of Government Revenue

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 National Defense Argument for a Tariff

International
Economics I
(Econ
3081) The national defense argument for a tariff assumes that an industry is vital
(BA Degree to a country’s security because its product or the skills it develops are
in
Economics) invaluable to the country during wartime or periods of national emergency.
Chapter 3: If, during normal times, free trade is permitted in the product of this
Interna- industry, imports may capture the lion’s share of the market and
tional Trade
Policy either drive domestic producers from the industry or reduce the size
of the industry.
Mengesha However, in times of national emergency or world conflict, normal
Yayo trade patterns might be disrupted and import supplies cut off.
(Ph.D.)
If a cut off occurs, the country is left without adequate
supplies of the product and national security is threatened.
International
Trade To prevent this threat from becoming a reality in the future, the
Policy industry must be protected now.
Arguments With tariff protection, the industry will thrive, and national security
in Favor of
and will not be undermined should world conflict or disruption occur.
Against
Trade
Protection
The In-
struments
 National Defense Argument for a Tariff

International
Economics I
(Econ
3081)
(BA Degree
in What are we to make of this argument?
Economics)
Chapter 3: The important point to recognize is that it is not easy to
Interna- identify which industries are vital to national defense.
tional Trade
Policy The determination of which industries are truly vital is
Mengesha
extraordinarily difficult and ultimately must be made by
Yayo the political process.
(Ph.D.) Once an industry has been determined vital to national
security, the task of the economist is to point out that policies
International
Trade other than the tariff may have a lower welfare cost for the
Policy country.
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Tariff to Improve the Balance of Trade

International
Economics I
(Econ
3081)
(BA Degree
in
The argument for a tariff to improve the balance of trade claims
Economics) that the imposition of the tariff will reduce imports.
Chapter 3:
Interna- Assuming that exports are not affected, the obvious result is that
tional Trade the balance of trade improves, because the balance of trade (the
Policy
value of exports minus the value of imports) becomes less negative
Mengesha (i.e., the trade deficit is reduced) or a deficit turns into a surplus.
Yayo
(Ph.D.) The economist responds to this argument by saying that it fails to
recognize the economic and political repercussions of this
International Mercantilistic action, and the end result when these repercussions
Trade
Policy are taken into account may be no improvement in the trade balance
Arguments and a reduction in country (and world) welfare.
in Favor of
and
Against
Trade
Protection
The In-
struments
 Tariff to Improve the Balance of Trade

International
Economics I
(Econ
Examples of these repercussions include the following:
3081)
(BA Degree 1. Retaliation by trading partners.
in 2. A reduction in national income abroad and a reduced ability of
Economics) foreign countries to buy the home country’s products.
Chapter 3: 3. A reduction in exports of the home country if the imports now
Interna- excluded were inputs into the production process of the home
tional Trade
Policy country’s exports.
4. A reduction in exports and an increase in imports of the home
Mengesha country because of a rise in the value of the home currency.
Yayo
(Ph.D.) 5. A reduction in exports and an increase in imports of the home
country because of inflationary pressures in the home country.
International Because the application of a tariff has the effect of turning demand inward
Trade to home-country products, this new demand could generate upward price
Policy pressures if the home country is close to full employment.
Arguments
in Favor of If inflationary tendencies appear, then home country firms become
and less competitive in world markets and in the domestic market
Against against the goods of other countries.
Trade
Protection
The In-
struments
 Tariff to Improve the Balance of Trade

International
Economics I
(Econ
3081)
(BA Degree Thus, the use of a tariff is no guarantee that the balance of trade will
in
Economics) improve
Chapter 3: In addition, considerable discussion in recent years has centered on the
Interna- trade deficit as essentially a macroeconomic phenomenon and on the tariff
tional Trade
Policy by itself as having virtually no effect on the balance of trade because it
does not address the relevant macroeconomic variables.
Mengesha
Yayo In macroeconomic equilibrium in a simple national income model,
(Ph.D.) Y = C + I + G + (X − M) , Where Y=national income,
C=consumption , I=Investment , G= Goverment spending on goods
International and srvices , X=exports, M=imports
Trade
Policy Rearranging this expression, we obtain
Arguments Y − (C + I + G) = (X − M)
in Favor of
and
Against
Trade
Protection
The In-
struments
 Tariff to Improve the Balance of Trade

International
Economics I Because (C + I + G) indicates domestic spending (by consumers, business,
(Econ and government), the conclusion is that if a trade deficit exists
3081) (i.e., ifX < M), it occurs becauseY < (C + I + G)or income is less than
(BA Degree
domestic spending.
in
Economics) In other words, the country is spending beyond its means. The only way to
Chapter 3: reduce the deficit is to increase Y, to reduce spending, or to undertake
Interna- some combination of the two.
tional Trade
Policy If the deficit is a macroeconomic problem, a tariff is unlikely to be of
much help, especially if the economy is close to full employment and
Mengesha
Yayo income therefore cannot be increased to any significant extent.
(Ph.D.) Even ignoring the macroeconomic interpretation of the deficit,
another policy besides a tariff might eliminate or reduce a trade
International deficit.
Trade Less welfare loss could be incurred if the country adopted a policy
Policy that operates on the balance of trade in its entirety, namely, a
Arguments devaluation or depreciation of the currency (assuming some fixed
in Favor of currency value was initially in place). ==> use exchange rate policy
and
Against rather than tariff
Trade The point to be made here is that policies other than a tariff may be
Protection
able to accomplish the particular objective.
The In-
struments
 The Terms-of-Trade Argument for Protection

International The terms-of-trade argument for protection maintains that national

Economics I welfare can be enhanced through a restrictive trade policy instrument.
(Econ
3081) It acknowledges that world welfare will decline with a departure from free
(BA Degree trade because the home country’s gains in welfare are more than offset by
in the losses of welfare occurring in other countries.
Economics)
Chapter 3: In gaining at the expense of foreign countries, the terms-of-trade argument
Interna- resembles many other arguments for protection in that the protectionist
tional Trade policy is thus a beggar-my-neighbor policy.
Policy
The terms-of-trade argument states that restrictive trade policy can raise
Mengesha the ratio of P exports/P imports (PX/PM) and thus enhance a country’s
Yayo welfare.
(Ph.D.)
Economically, the use of a tariff by the home country reduces demand for
International the foreign good on the world market.
Trade Consequently, the world price of the imported good will fall and
Policy PX/PM will rise.
Arguments The use of a tariff therefore has the potential to increase home
in Favor of
and welfare, although foreign welfare will fall as the commodity terms of
Against trade of foreign countries decline.
Trade
Protection We emphasize that only a large country can employ the terms-of-trade
The In- argument with any success because the tariff-imposing country must be
struments able to influence its terms of trade.
 The Terms-of-Trade Argument for Protection

International
Economics I
(Econ
3081) The terms-of-trade argument is best understood with an offer curve
(BA Degree diagram.
in In Figure 1, OCI represents the offer curve of the home country
Economics) (country I), while OCII is the offer curve of the foreign country
Chapter 3:
Interna- (country II).
tional Trade In free trade, the terms of trade are TOT1.
Policy If country I imposes a tariff, its offer curve shifts to OC I,
establishing the new equilibrium at point E .
Mengesha
Yayo While country I’s exports are reduced from 0x1 to 0x2 and its
(Ph.D.) imports from 0y1 to 0y2, the terms of trade have improved from
TOT1 to TOT2.
International Thus, there is potential for increased well-being for country I
Trade because it is receiving more imports for each unit of its exports.
Policy Alternatively, it is giving up fewer exports for each unit of imports
Arguments obtained.
in Favor of In a welfare sense, this means that country I is potentially “better
and
Against off.” The terms-of-trade argument is not yet complete, however.
Trade
Protection
The In-
struments
 The Terms-of-Trade Argument for Protection

International
Economics I
(Econ What has not been taken into account in a welfare sense is that the
3081) quantity of imports has fallen with the imposition of the tariff.
(BA Degree
in This quantity reduction, other things being equal, reduces the level
Economics) of country I’s welfare because the country’s consumption of low-cost
Chapter 3: imports, for which home production is at a comparative
Interna- disadvantage, has been reduced.
tional Trade
Policy In sum, country I gains because of a lower world price of the
imported good but loses because of a smaller import quantity of
Mengesha that good.
Yayo This additional consideration of forgone quantities is brought into
(Ph.D.) the analysis through the concept of the optimum tariff rate.
The optimum tariff rate is the rate that maximizes the
International
Trade country’s welfare.
Policy Conceptually, it is the tariff rate at which the positive
Arguments difference between the gain from better prices and the loss
in Favor of from reduced quantity of imports is at a maximum.
and
Against If the tariff rate is higher than this optimum rate, then welfare
Trade is below
Protection
The In-
struments
 The Terms-of-Trade Argument for Protection

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 The Terms-of-Trade Argument for Protection

International
Economics I
(Econ
3081) The initial free-trade equilibrium is at point E, the intersection of country
(BA Degree I’s free-trade offer curve OCI and country II’s free-trade offer curve OCII.
in
Economics) Country I’s imposition of a tariff shifts its offer curve from OCI to OC I, as
Chapter 3: the country is now less willing to trade at the previous terms of trade,
Interna- TOT1.
tional Trade
Policy Because of the tariff, the new equilibrium is at point E’ .
Country I’s exports of good X fall from 0x1 to 0x2 and its imports
Mengesha of good Y fall from 0y1 to 0y2.
Yayo However, the terms of trade for country I improve from TOT1 to
(Ph.D.) TOT2, and each unit of country I’s exports now commands a
greater quantity of imports the maximum, because the additional
International gain from better terms of trade is more than offset by the additional
Trade
Policy loss from the reduced quantity of imports.
Arguments Similarly, at a tariff rate below the optimum, the unexploited gains
in Favor of from improving the terms of trade exceed the losses from the
and additional reduction in quantity of imports.
Against
Trade
Protection
The In-
struments
 Tariff to Reduce Aggregate Unemployment

International The argument for a tariff to reduce aggregate unemployment runs as

Economics I follows:
(Econ Given that a country has unemployment in slack times, the
3081) imposition of a tariff will result in a shift in demand by domestic
(BA Degree consumers from foreign goods to home-produced goods.
in
Economics) With this increase in demand, home industries will expand their
Chapter 3: output and, in the process, will hire more labor and thus contribute
Interna- to the reduction of unemployment in the country.
tional Trade The new labor hired will also be earning spendable income and, by
Policy
the familiar Keynesian multiplier process, other industries will then
Mengesha expand and add new jobs. Therefore, the tariff has accomplished its
Yayo stated objective.
(Ph.D.) This argument tends to gain popularity during times of recession.
After the worldwide financial/economic crisis began in 2007, many
International observers and many governments cautioned against rising
Trade protectionism, a surge that could lead to a global trade war.
Policy
Arguments In assessing this argument, economists raise several points, most of which
in Favor of center around the possibility that very few new jobs will be created by the
and tariff.
Against
Trade may decline because the reduction in exports in the foreign countries
Protection has lowered their national income. This causes a cut in spending on
The In- the home country’s export goods and reduces employment in the
struments export industries in the home country.
 Tariff to Reduce Aggregate Unemployment

International
Economics I
(Econ
3081) The home country might lose jobs in export industries to such an extent
(BA Degree that the net effect on employment is negligible or even negative.
in 1. Expanded employment in the import-substitute industries in the
Economics)
Chapter 3: domestic country comes about in a beggar-my-neighbor manner
Interna- because jobs are lost in foreign countries.
tional Trade When the home country reduces its imports by the tariff,
Policy
there is an equivalent loss of exports and attendant job losses
Mengesha in other countries.
Yayo To avert this job loss, those countries may impose retaliatory
(Ph.D.) tariffs that reduce export jobs in the home country.
2. Even without any retaliation, exports of the home country may
International decline because the reduction in exports in the foreign countries has
Trade
Policy lowered their national income.
Arguments This causes a cut in spending on the home country’s export
in Favor of goods and reduces employment in the export industries in the
and
Against home country.
Trade
Protection
The In-
struments
 Tariff to Reduce Aggregate Unemployment

International
Economics I
(Econ
3081) The loss of jobs in the home export industries can occur for several
(BA Degree reasons:
in 3. If the home country has an exchange rate that is free to vary,
Economics) then foreign currencies will depreciate when the home country
Chapter 3:
Interna- imposes the tariff and buys fewer foreign goods.
tional Trade The purchase of fewer foreign goods implies that there is less
Policy demand for foreign currency with which to purchase those
Mengesha goods.
Yayo The depreciation, or fall in value, of foreign currencies is
(Ph.D.) equivalent to a rise in value of the home currency, which
serves to reduce home exports (because it takes more units of
International the foreign currency to buy the home goods) and to increase
Trade home country imports (which are now relatively cheaper to
Policy
home residents).
Arguments
in Favor of The net effect of the rise in the value of the home currency is
and to reduce jobs in the home export and import-substitute
Against industries.
Trade
Protection
The In-
struments
 Tariff to Reduce Aggregate Unemployment

International
Economics I
(Econ
3081) In addition, economists stress that if the goal is to increase employment,
(BA Degree why use the tariff when other policies might accomplish the goal more
in directly and with more certainty?
Economics)
Chapter 3: The other policies—the macroeconomic instruments of monetary
Interna- and fiscal policy—could be used in an expansionary way to increase
tional Trade employment.
Policy
Employment in foreign countries might also increase as the home
Mengesha country uses its expanded income to buy more imports and transmit
Yayo some of its expansion to other countries.
(Ph.D.) Thus, welfare everywhere could rise instead of fall as it would
do with a tariff.
International If a problem such as aggregate unemployment exists, then the
Trade
Policy appropriate policies to use are those aimed specifically at
Arguments dealing with that problem.
in Favor of This notion is known as the specificity principle, and we shall
and employ it in several other arguments for protection.
Against
Trade
Protection
The In-
struments
 Tariff to Increase Employment in a Particular Industry

International
Economics I
(Econ
3081) The tariff to increase employment in a particular industry takes a
(BA Degree microeconomic view of the employment question, arguing that if
in protection is granted to a given industry, demand shifts from the import to
Economics)
the home product because the price of the imported good rises relative to
Chapter 3:
Interna- the price of the home good.
tional Trade This shift in purchases then bids up the price of the home good,
Policy
inducing domestic producers to supply a greater quantity.
Mengesha The production of these additional units results in the hiring of more
Yayo domestic labor, thus increasing employment in the home industry.
(Ph.D.) However, new jobs in the protected industry may be filled at the
expense of employment in other industries.
International Thus, an addition to total employment in the country may not
Trade
Policy take place, but this is not the objective of the
Arguments tariff.==>Rather, the goal is to increase employment in the
in Favor of particular industry, and the tariff has succeeded in
and accomplishing this objective.
Against
Trade
Protection
The In-
struments
 Tariff to Increase Employment in a Particular Industry

International
Economics I
(Econ
3081)
(BA Degree Economists do not dispute that the tariff can augment employment in this
in industry.
Economics)
Chapter 3: However, their interest in efficiency leads them to question whether
Interna- the tariff is the best method of increasing employment.
tional Trade If the goal of adding to employment in this industry is
Policy accepted—even given that employment is being reduced
Mengesha elsewhere—a subsidy to production or employment is a
Yayo welfare-superior way to attain the goal compared with using a tariff.
(Ph.D.) Thus, while this argument for protection may be valid theoretically
from its particular perspective, this validity does not mean that tariff
International protection should be granted.
Trade An alternative instrument for providing jobs in the industry—a
Policy
subsidy by the home government—can do the job (pun intended) at
Arguments
in Favor of lower cost in a welfare sense.
and
Against
Trade
Protection
The In-
struments
 Tariff to Increase Employment in a Particular Industry

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Tariff to Benefit a Scarce Factor of Production

International
Economics I The tariff to benefit a scarce factor of production is a more sophisticated
(Econ
3081) and rigorous argument than many arguments for protection.
(BA Degree It makes no claim that the country as a whole benefits from the
in protection; it is instead an argument for protection from the
Economics) perspective of an individual factor of production.
Chapter 3:
Interna- Although the country as a whole suffers reduced welfare from the
tional Trade trade policy, the country’s scarce factor gains.
Policy
Two points can be made in assessing the argument, however.
Mengesha First, the country as a whole loses welfare from the imposition of a
Yayo tariff; a political decision to redistribute income to labor (or the
(Ph.D.) scarce factor) by a tariff does reduce national well-being.
If politicians wish to make this redistribution, economists will
International
Trade respond that a more efficient way to accomplish the objective
Policy is to undertake (if the political process permits) a direct
Arguments transfer by taxing capital (or the abundant factor) and
in Favor of awarding the tax revenues to labor.
and This direct process does not lead to the welfare loss
Against
Trade associated with reducing the country’s participation in
Protection international trade.
The In-
struments
 Tariff to Benefit a Scarce Factor of Production

International
Economics I
(Econ Two points can be made in assessing the argument, however.
3081) Second, it may be that countries do not have the complete factor
(BA Degree mobility implied in the argument.
in
Economics) If the assumptions of the specific-factors model are more
Chapter 3: relevant in the real world than those of the Heckscher-Ohlin
Interna- model, the scarce-factor conclusion does not hold.
tional Trade If protection is adopted, the return to capital in the
Policy
import-competing industry will rise, the return to capital in
Mengesha the export industry will fall, and the money wage will rise.
Yayo However, the impact on real wages of workers depends on
(Ph.D.) their consumption patterns.
A gain occurs if a worker’s consumption pattern is tilted
International toward consumption of the export good, but the worker
Trade suffers a reduced real wage if the consumption pattern is tilted
Policy
Arguments toward the import good. No a priori judgment can be made
in Favor of on the impact on the scarce factor.
and Further, if economies of scale and greater product variety are
Against relevant, all residents of a trading country can gain regardless
Trade
Protection of scarcefactor status.
The In-
struments
 Fostering “National Pride” in Key Industries

International
Economics I
(Econ
3081)
(BA Degree Pride in your country can clearly be thought of as a legitimate social
in objective.
Economics) Countries often take pride in being able to produce particular products in
Chapter 3: that such production serves as an indication that they are as “modern” or
Interna-
tional Trade capable or creative as other countries to which they might be comparing
Policy themselves.
Mengesha This can, in a sense, be viewed as a social externality that is not
Yayo captured in the price of the domestically produced product.
(Ph.D.) If it is the physical production itself that produces this pride, then it may
warrant a policy intervention. However, as is often the case, a production
International subsidy will be a more cost-effective way of achieving this end.
Trade
Policy Only when it is necessary to keep out all foreign goods to achieve the
Arguments desired objective would blocking all imports through the use of a
in Favor of prohibitive tariff or product embargo be a logical policy choice.
and
Against
Trade
Protection
The In-
struments
 Differential Protection as a Component of a Foreign Policy/Aid Package

International
Economics I
(Econ
3081)
Countries often have complex sets of targets or objectives that
(BA Degree
in involve many different policy instruments. This is especially true in
Economics) the area of global objectives.
Chapter 3:
Interna- Thus, it is not uncommon to see a country adopt policy positions
tional Trade that may differ across its trading partners.
Policy
For example, a country can generally be in favor of reducing
Mengesha
Yayo barriers to trade and yet, at the same time, place a trade
(Ph.D.) embargo on one or more countries for reasons linked to other
social or hegemonic objectives.
International We must always take care to acknowledge the social costs of
Trade
Policy incorporating trade restrictions to meet the objective.
Arguments Such differentiated policy treatment can also work in a
in Favor of
and positive fashion.
Against
Trade
Protection
The In-
struments
 Differential Protection as a Component of a Foreign Policy/Aid Package

International
Economics I
(Econ
3081) For example, a number of industrial countries have adopted the
(BA Degree Generalized System of Preferences (GSP) in dealing with some particular
in goods coming from the poorer nations of the world.
Economics)
Chapter 3: This policy is one that substantially reduces the barriers to trade
Interna- with respect to goods coming in from certain developing countries.
tional Trade It can, in essence, be viewed as part of a broader foreign aid
Policy
package that might involve bilateral and multilateral aid.
Mengesha While removing protection on all imports would be preferable, this
Yayo inconsistent policy treatment could be viewed as providing a
(Ph.D.) short-term advantage for the poor country so that country can
become competitive.
International It is critical, of course, that the GSP provision be applied to
Trade products for which the recipient country has a potential comparative
Policy
Arguments advantage.
in Favor of Otherwise, it will simply provide an incentive to misallocate scarce
and resources in the developing country
Against
Trade
Protection
The In-
struments
 Protection to offset market imperfections:

International The Presence of Externalities as an Argument for Protection

Economics I The externality argument is based on the notion that the social costs or
(Econ
3081) benefits of a given production or consumption process differ from the
(BA Degree private costs or benefits of that production or consumption process.
in In such a situation, there is market failure in that even a perfectly
Economics) competitive market will not maximize social welfare
Chapter 3:
Interna- For example, if a production process generates air pollution, or a
tional Trade “negative externality,” the producing firm itself may not bear the full
Policy “cost” of its production because the pollutants (rather than having
to be cleaned up by the firm) can simply be passed into the
Mengesha
Yayo atmosphere for the society at large to deal with.
(Ph.D.) Hence, the private cost to the firm of the production process is less
than the social cost of the production process (which would equal
International the private cost plus the pollution cost).
Trade Because the cost paid by the firm is less than the “true” cost, the
Policy price paid by the consumer (based on the private cost) is lower than
Arguments it would be if all costs were included, and hence more of the good
in Favor of will be produced than would otherwise be the case.
and
Against Because this price (a reflection of the benefit received by the
Trade consumer from purchasing one more unit) is less than the true cost
Protection
of producing that unit, society’s welfare actually declines because of
The In- the production of that last unit.
struments
 Protection to offset market imperfections:

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
The Presence of Externalities as an Argument for Protection
Chapter 3:
Interna- A “solution” to the problem is to tax the production process in this case,
tional Trade and to tax to the extent of the difference between private cost and social
Policy
cost.
Mengesha With this tax in place, price will rise, fewer units of the good will be
Yayo produced because of the decline in quantity demanded, and welfare
(Ph.D.) will rise since the units of the good where social cost exceeds
benefits are no longer produced.
International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Protection to offset market imperfections:

International
Economics I
(Econ
3081)
(BA Degree
in Tariff to Extract Foreign Monopoly Profit
Economics)
Chapter 3: The analysis of a tariff to extract foreign monopoly profit was
Interna-
tional Trade originated by James Brander and Barbara Spencer (1981).
Policy In their framework, the home country faces a foreign monopoly
Mengesha supplier of a good.
Yayo The restrictive assumption is made that the foreign firm is the
(Ph.D.)
only supplier of this product in the world market, and thus
International there is no home production—the home country is entirely
Trade dependent on the foreign monopoly firm for the product.
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Protection to offset market imperfections

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna- The Use of an Export Tax to Redistribute Profit from a Domestic Monopolist
tional Trade
Policy For the situation in which a domestic monopolist is both selling in the
domestic market and exporting at the international price as a price taker,
Mengesha it is clearly possible for the country to transfer well-being from the
Yayo monopolist to consumers and the government by imposing an export tax.
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Protection as a response to International Policy Distortions

International
Economics I
(Econ
3081)
(BA Degree Many countries have provisions in place that provide a way for them to
in respond quickly to the actions of foreign governments and or firms that
Economics)
Chapter 3: are perceived to be trade distorting in nature and very costly to domestic
Interna- firms.
tional Trade These are distortions that are seen to reduce not only country welfare in
Policy
the short and medium run but also world welfare to the extent they foster
Mengesha less efficient production from the world perspective.
Yayo
(Ph.D.) These policies are often referred to as “triggerprice” mechanisms that,
upon substantiation of the distortion, provide a tariff response to offset the
initial distortion.
International
Trade In this section, arguments for protection are provided for distortions
Policy related to foreign dumping, foreign subsidies, and apparent nontariff
Arguments barriers to trade.
in Favor of
and
Against
Trade
Protection
The In-
struments
 Protection as a response t ointernational Policy Distortions

International
Economics I
(Econ
3081) Tariff to Offset Foreign Dumping
(BA Degree This argument, usually known as the antidumping argument for a tariff,
in has been used prominently in the United States in recent years.
Economics)
Chapter 3: It is first necessary to define dumping.
Interna- To economists, dumping occurs when a firm sells its product at a
tional Trade
Policy lower price in the export market than in the home-country market.
This definition says nothing about “selling below cost”—the popular
Mengesha meaning of dumping.
Yayo Rather, to the economist, dumping is simply a form of price
(Ph.D.) discrimination.
As you recall, price discrimination occurs when a firm sells the same
International product in different markets at different prices.
Trade
Policy The argument for protection is that dumping by foreign firms into
Arguments the home country is in some sense unfair and constitutes a threat to
in Favor of domestic producers because of the low import price; therefore, a
and tariff can offset the foreign firm’s unfair price advantage.
Against
Trade
Protection
The In-
struments
 Protection as a response t ointernational Policy Distortions

International
Economics I Tariff to Offset a Foreign Subsidy
(Econ
3081) The basic point of the argument for a tariff to offset a foreign subsidy is
(BA Degree that a foreign government subsidy awarded to a foreign import supplier
in constitutes unfair trade with the home country and that the amount of
Economics) foreign subsidy should be matched by a home tariff to restore equal
Chapter 3:
Interna- footing to the home and the foreign industry.
tional Trade In principle, an economist should have no difficulty in supporting a tariff to
Policy
offset a foreign subsidy under certain conditions, even though domestic
Mengesha consumers will pay higher prices.
Yayo Such a duty is known as a countervailing duty (CVD).
(Ph.D.)
If the subsidy allows the foreign firm to be an exporter of the product
International when the foreign country does not have a comparative advantage in this
Trade good, then the subsidy generates a distortion from the free-trade
Policy allocation of resources.
Arguments
in Favor of World welfare is reduced because of the distortion—although the
and importing country’s welfare may rise owing to the lower consumer
Against price—and the offsetting of the distortion by an import tariff can aid in
Trade restoring the trade pattern to a more efficient one.
Protection
The In-
struments
 Protection as a response t ointernational Policy Distortions

International
Economics I
(Econ
3081)
(BA Degree Tariff to Offset a Foreign Subsidy
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Protection as a response t ointernational Policy Distortions

International
Economics I
(Econ
3081)
(BA Degree Tariff to Offset a Foreign Subsidy
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Protection as a response t ointernational Policy Distortions

International
Economics I
(Econ
3081)
(BA Degree
in Tariff to Offset a Foreign Subsidy
Economics)
Chapter 3:
Despite these uncertainties, the United States has a well-defined
Interna- procedure, similar to the antidumping procedure, for implementing a
tional Trade tariff to offset a foreign subsidy.
Policy
Upon receipt of a petition from a U.S. importing firm or industry,
Mengesha
Yayo the Department of Commerce determines whether or not a foreign
(Ph.D.) supplier has been given a subsidy.
If the answer is yes, the USITC applies the “injury test.” If injury is
International
Trade occurring, then a countervailing duty is imposed to offset the price
Policy impact of the foreign subsidy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Miscellaneous , invalid arguements

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3: Various arguments are continually encountered that, on the surface, seem
Interna- logical but, upon close examination, make little sense.
tional Trade
Policy Strategic trade policy : Fostering comparative advantage
The Infant Industry Argument for Protection
Mengesha Economies of Scale in a Duopoly Framework
Yayo Research and Development and Sales of a Home Firm
(Ph.D.) Export Subsidy in Duopoly
Strategic Government Interaction and World Welfare
International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Trade Policy

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3: There are various instruments of trade policy that the government of
Interna- a country could deploy to maximize the welfare of its citizens.
tional Trade
Policy Tariffs and non-tariff barriers,
Mengesha Subsidies,
Yayo Export promotion
(Ph.D.) Quantitative restrictions (administrative measures of
protections)
International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Trade Policy

International
Economics I
(Econ
3081) Tariffs
(BA Degree A tariff is a tax or duty levied on the traded commodity (import and
in export) as it crosses a national boundary.
Economics)
Chapter 3: An import tariff is a duty on the imported commodity, while
Interna- an export tariff is a duty on the exported commodity.
tional Trade
Policy Import tariffs are more important than export tariffs, and most of
our discussion will deal with import tariffs.
Mengesha Export tariffs are prohibited by the U.S. Constitution but are often
Yayo applied by developing countries on their traditional exports (such as
(Ph.D.)
Ghana on its cocoa and Brazil on its coffee) to get better prices and
raise revenues.
International Developing nations rely heavily on export tariffs to raise revenues
Trade
Policy because of their ease of collection.
Arguments Conversely, industrial countries invariably impose tariffs or other
in Favor of trade restrictions to protect some (usually labor-intensive) industry,
and while using mostly income taxes to raise revenues.
Against
Trade
Protection
The In-
struments
 Trade Policy

International
Economics I
(Econ
3081) Tariffs
(BA Degree Once a tariff is levied,
in
Economics) The domestic price of the imported goods (Pxd ) will be
Chapter 3: over and above the world price (Pxw ) of the same
Interna-
tional Trade commodity (ie.,Pxd > Pxw ).
Policy
The tariff is believed to shield domestic industries from foreign
Mengesha competition.
Yayo Tariffs have been sharply reduced since the end of World War
(Ph.D.)
II and
International Now, average 3 percent on industrial products in
Trade developed nations , but they are much higher in
Policy
Arguments developing nations.
in Favor of Trade in agricultural commodities is still subject to relatively
and
Against high trade barriers.
Trade
Protection
The In-
struments
 Trade Policy

International
Economics I
(Econ
3081) Tariffs - Average tariff rate (Developed countries)
(BA Degree
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Trade Policy

International
Economics I
(Econ
3081) Tariffs - Average tariff rate (Developing countries)
(BA Degree
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Trade Policy

International
Economics I
(Econ
3081)
(BA Degree
in
Economics) Tariffs -Forms
Chapter 3:
Interna- Tariffs can be ad valorem, specific, or compound.
tional Trade
Policy The ad valorem tariff is expressed as a fixed percentage of the
value of the traded commodity-most common ==> Value Tax
Mengesha
Yayo
The specific tariff is expressed as a fixed sum per physical unit
(Ph.D.) of the traded commodity==> Quantity Tax
A compound tariff is a combination of an ad valorem and a
International specific tariff ==>Value and quanity Tax
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Trade Policy

International
Economics I
(Econ Tariffs -forms
3081) For example,
(BA Degree
in A10 percent ad valorem tariff on bicycles would result in the
Economics) payment to customs officials of the sum of $10 on each $100
Chapter 3:
Interna- imported bicycle and the sum of $20 on each $200 imported
tional Trade bicycle.
Policy
A specific tariff of $10 on imported bicycles means that
Mengesha customs officials collect the fixed sum of $10 on each imported
Yayo
(Ph.D.) bicycle regardless of its price.
A compound duty of 5 percent ad valorem and a specific duty
International of $10 on imported bicycles would result in the collection by
Trade customs officials of the sum of $15 on each $100 bicycle and
Policy
Arguments $20 on each $200 imported bicycle.
in Favor of The United States uses the ad valorem and the specific tariff
and
Against with about equal frequency, whereas European countries rely
Trade mainly on the ad valorem tariff.
Protection
The In-
struments
 Trade Policy

International
Economics I
(Econ
3081)
(BA Degree Tariffs -Most prefered
in
Economics) The ad valorem form is usually preferred because:
Chapter 3: a) it is transparent as can be seen in price, and
Interna- b) it is readily comparable for it is given in percentage terms
tional Trade
Policy There are some terminologies that we encounter in the tariff
literature.
Mengesha
Yayo ‘Tariff schedule’==>refers to the list of tariff rates applicable;
(Ph.D.) Tariff bound (or scheduled)==> the tariff rate, which is
agreed as a maximum with the World Trade Organization
International (WTO);
Trade Applied rate==> refers to the actual rate being used, and
Policy the tariff averages, which refers to the weighted average rate
Arguments of all the tariffs used in a country
in Favor of
and
Against
Trade
Protection
The In-
struments
 Tariff Effect

International
Economics I
(Econ The effects of a tariff on production, consumption, trade, and welfare in
3081) the nation imposing the tariff and on its trade partner(s).
(BA Degree Partial equilibrium analysis (i.e., by utilizing demand and supply
in curves) and
Economics)
Chapter 3: The partial equilibrium effects of a tariff in a country that is
Interna- too small to affect world prices by its trading.
tional Trade
Policy General equilibrium analysis (more complex), which makes use of
production possibility frontiers and community indifference curves,
Mengesha or offer curves.
Yayo
(Ph.D.) General equilibrium analysis and examine the effects of a tariff
in a small nation and in a large nation in
International The concept of the optimum tariff.
Trade The partial equilibrium effects of a tariff in a large nation and
Policy derives the formula for the rate of effective protection.
Arguments
in Favor of It then analyzes graphically the Stolper–Samuelson theorem
and and its exception, examines the short-run effect of a tariff on
Against factors’ income, and shows the measurement of the optimum
Trade
Protection tariff.
The In-
struments
 Tariff Effect :Consumer and Producer Surplus

International
Economics I
(Econ
3081)
(BA Degree
in The increase in the price of commodity X from PX = $1 to PX = $2 as a
Economics) result of the 100 percent tariff that Nation 2 imposes on the importation
Chapter 3: of commodity X leads to
Interna-
tional Trade A reduction in consumer surplus and an increase in producer surplus.
Policy
The left panel of Figure 8.2 shows that the loss of consumer surplus that
Mengesha results from the tariff is equal to shaded area AGHB = $60. Why ?
Yayo Before the imposition of the tariff, consumers in Nation 2 consume
(Ph.D.) 70X at PX = $1
Consumers pay for each unit as much as they are willing to
International
Trade pay for the last, or 70th, unit of commodity X (given by point
Policy B on DX ).
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Tariff Effect :Consumer and Producer Surplus

International
Economics I Figure 8.2: Effect of Tariff on Consumer and Producer Surplus.
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy The left panel shows that a tariff that increases the price of
Arguments commodity X from PX = $1 to PX = $2 results in a reduction in
in Favor of
and consumer surplus from ARB = $122.50 to GRH = $62.50, or by
Against shaded area AGHB = $60.
Trade The right panel shows that the tariff increases producer surplus by
Protection
shaded area AGJC = $15.
The In-
struments
 Tariff Effect :Consumer and Producer Surplus

International
Economics I
(Econ
3081)
(BA Degree
in
Economics) Consumer Surplus
Chapter 3: The difference between what consumers would be willing to pay for
Interna- each unit of the commodity (indicated by the height of DX at that
tional Trade
Policy point) and what they actually pay for that unit (the same as for the
last unit that they purchase)
Mengesha
Yayo Consumer surplus is the difference between what consumers
(Ph.D.) would be willing to pay for each unit of the commodity and
what they actually pay.
International Graphically, consumer surplus is measured by the area under
Trade the demand curve above the going price.
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Costs and Benefits of a Tariff

International
Economics I
(Econ
3081)
(BA Degree
in FIGURE 8.3. Partial Equilibrium Costs and Benefits of a Tariff
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Costs and Benefits of a Tariff

International
Economics I
(Econ
3081)
(BA Degree
in
Economics) The figure shows that with a 100 percent import tariff on commodity X,
Chapter 3: PX rises from $1 to $2 in Nation 2.
Interna- This reduces the consumer surplus by AGHB = a + b + c + d = $15 +
tional Trade
Policy $5 + $30 + $10 = $60. Of this,
MJHN = c = $30 is collected by the government as tariff revenue,
Mengesha
Yayo AGJC = a = $15 is redistributed to domestic producers of
(Ph.D.) commodity X in the form of increased rent or producer surplus,
While the remaining $15 (the sum of the areas of triangles CJM = b
International = $5 and BHN = d = $10) represents the protection cost, or
Trade deadweight loss, to the economy
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 The Welfare Effect of Liberalizing Trade on Some Products

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 The Welfare Effect of Liberalizing Trade on Some Products

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 The Optimum Tariff

International
Economics I
(Econ
3081) The Meaning of the Concept of Optimum Tariff and Retaliation
(BA Degree
in The optimum tariff is that rate of tariff that maximizes the net
Economics) benefit resulting from the improvement in the nation’s terms of
Chapter 3: trade against the negative effect resulting from reduction in the
Interna- volume of trade.
tional Trade
Policy That is, starting from the free trade position, as the nation
increases its tariff rate, its welfare increases up to a maximum
Mengesha
Yayo (the optimum tariff) and then declines as the tariff rate is
(Ph.D.) raised past the optimum.
When a large nation imposes a tariff, the volume of trade declines
International but the nation’s terms of trade improve.
Trade The decline in the volume of trade, by itself, tends to reduce the
Policy nation’s welfare.
Arguments On the other hand, the improvement in its terms of trade, by itself,
in Favor of
and tends to increase the nation’s welfare.
Against
Trade
Protection
The In-
struments
 The Optimum Tariff

International Eventually the nation is pushed back toward the autarky point with a
Economics I prohibitive tariff.
(Econ
3081) However, as the terms of trade of the nation imposing the tariff improve,
(BA Degree those of the trade partner deteriorate, since they are the inverse, or
in reciprocal, of the terms of trade of the tariff-imposing nation.
Economics)
Chapter 3: Facing both a lower volume of trade and deteriorating terms of trade, the
Interna- trade partner’s welfare definitely declines.
tional Trade
Policy As a result, the trade partner is likely to retaliate and impose an optimum
tariff of its own.
Mengesha
Yayo While recapturing most of its losses with the improvement in its terms of
(Ph.D.) trade, retaliation by the trade partner will definitely reduce the volume of
trade still further.
International The first nation may then itself retaliate.
Trade
Policy If the process continues, all nations usually end up losing all or most
Arguments of the gains from trade.
in Favor of Note that even when the trade partner does not retaliate
and
Against when one nation imposes the optimum tariff, the gains of the
Trade tariff-imposing nation are less than the losses of the trade partner,
Protection
so that the world as a whole is worse off than under free trade.
The In- It is in this sense that free trade maximizes world welfare.
struments
 The Optimum Tariff

International
Economics I
(Econ
3081) FIGURE 8.7. The Optimum Tariff and Retaliation.
(BA Degree
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 The Optimum Tariff

International
Economics I
(Econ
3081)
(BA Degree In Figure 8.7,
in
Economics) Offer curves 1 and 2 define free trade equilibrium point E and
Chapter 3: PX/PY = 1.
Interna- If the optimum tariff for Nation 2 rotates its offer curve to 2*,
tional Trade
Policy Nation 2’s terms of trade improve to PX /PY = 1/PW = 1/0.625
= 1.6.
Mengesha At equilibrium point E*, Nation 2 is at its highest possible welfare
Yayo and is better off than at the free trade equilibrium point E.
(Ph.D.) However, since Nation 1’s welfare is reduced, it is likely to retaliate
with an optimum tariff of its own, shown by offer curve 1* and
International equilibrium at point E**.
Trade
Policy Nation 2 may then itself retaliate so that in the end both nations are
Arguments likely to lose all or most of the benefits from trade.
in Favor of
and
Against
Trade
Protection
The In-
struments
 Effective Rate of Protection

International
Economics I
(Econ
3081)
(BA Degree
in
Economics) The effective rate of protection measures how much protection a tariff or
Chapter 3: other trade policy provides domestic producers.
Interna-
tional Trade It represents the change in value that an industry adds to the production
Policy process when trade policy changes.
Mengesha The change in value that an industry provides depends on the change in
Yayo prices when trade policies change.
(Ph.D.)
Effective rates of protection often differ from tariff rates because tariffs
affect sectors other than the protected sector, a fact which affects the
International prices and value added for the protected sector.
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Effective Rate of Protection

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna- For example, suppose that an automobile sells on the world market for
tional Trade $8000, and the parts that made it are worth $6000.
Policy
The value added of the auto production is $8000-$6000 Suppose that a
Mengesha country puts a 25% tariff on imported autos so that domestic auto
Yayo assembly firms can now charge up to $10000 instead of $8000.
(Ph.D.)
Now auto assembly will occur if the value added is up to $10000-$6000.
International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Effective Rate of Protection

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna-
tional Trade The effective rate of protection for domestic auto assembly firms is the
Policy
change in value added: ($4000 - $2000)/$2000 = 100% In this case, the
Mengesha effective rate of protection is greater than the tariff rate.
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Non-Tariff Barriers (NTBs)

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna- All actions except tariff that hamper trade between countries could be
tional Trade defined as non-tariff barriers.
Policy
The NTBs could take different forms, which include:
Mengesha a) Trade-related restrictions
Yayo b) Taxes or subsidies-based government intervention
(Ph.D.) c) Bureaucratic regulation

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Non-Tariff Barriers (NTBs)

International
Economics I
(Econ
3081)
(BA Degree The NTBs could take different forms, which include:
in
Economics) d) Quantitative restriction – eg. import and export quotas
Chapter 3: e) Voluntary export restraint (VER): where exporting country agrees
Interna- to limit its supply at the request of the importing country.
tional Trade f) Performance requirement: foreign firms need to fulfill some
Policy
objective that may or may not apply to domestic one. (eg. A
Mengesha domestic content requirement) or export requirement . . . etc g)
Yayo Government procurement: relates to government procurement or
(Ph.D.) sourcing policies
Quantitative restrictions, especially of quotas, are the most common type
International
Trade of NTBs.
Policy Quota raises the price of the good being restricted and leads to pure
Arguments rent to license holders, hence, encouraging rent-seeking behavior.
in Favor of
and
Against
Trade
Protection
The In-
struments
 Non-Tariff Barriers (NTBs)

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna- We noted earlier that one of the attractions of tariffs, compared to say
tional Trade NTBs, is they are transparent and comparable.
Policy
NTBs are difficult to quantify and hence the difficulty of comparing the
Mengesha extent of protection across countries or commodities.
Yayo One limited possibility is to find the ad valorem equivalent (AVE) of the
(Ph.D.)
NTBs.
International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Non-Tariff Barriers (NTBs)

International
Economics I
(Econ
3081) One commonly used approach is to use what is called the frequency index
(BA Degree (FI) and the associated and similar indicator called the Coverage Ratio
in (CR). The FI and CR are defined as:
Economics)
Chapter 3: 100 X
Interna- FI = Dj
Ng
tional Trade jig
Policy
100
P
Mengesha Dj Mj
Yayo CR =
jig
(Ph.D.)
P
Mj
jig
International
Trade Where Dj = a dummy variable takes the value of 1 when at least one
Policy
NTB is applied in catagory j of the imported commodity, and 0 otherwise.
Arguments
in Favor of Ng = refers to total number of commodities within commodity category J.
and Mj = the import share that is used to weight the incidence of NTB.
Against
Trade
Protection
The In-
struments
 Export promotion

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna- Accompanying the rise in NTBs for imports are measures that
tional Trade promote exports: direct subsidies/export support programs such as
Policy
provision of cheap credit etc.
Mengesha
Yayo Such measures are usually sources of contention in the World Trade
(Ph.D.) Organization (WTO).

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Self – Interest Approach

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Refere to other slides
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Social Objectives Approach

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Refere to other slides
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 The Process of Trade Liberalization: Benefits and Risks

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Reading Assignment
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 Intellectual Property Rights (IPRs)

International
Economics I
(Econ
3081)
(BA Degree
in
Economics)
Chapter 3:
Interna-
tional Trade
Policy
Reading Assignment
Mengesha
Yayo
(Ph.D.)

International
Trade
Policy
Arguments
in Favor of
and
Against
Trade
Protection
The In-
struments
 References

International
Economics I Appleyard, Dennis R. and Field, Alfred J. (1998),
(Econ
3081) International Economics, Irwin McGraw - Hill, Boston,
(BA Degree U.S.A.
in
Economics)
Chapter 3:
Krugman, Paul and Maurice Obstfeld (1997),
Interna- International Economics: Theory and Policy, Addison –
tional Trade
Policy Wesley Longman, Inc. California, U. S. A.
Mengesha
Yayo Salvatore, Dominic (1995), International Economics,
(Ph.D.) Prentice hall International, Inc.
Appendix Sodersten, B. and G. Reed (1994), International
Economics, New York: St. Martin’s Press, U.S.A.
Alemayehu G. (2012), Fundamental of International
Economics for Developing Countries: A Focus on Africa:
Volume I, Trade Theory, Policy and Practice (Nairobi:
AERC and Moran Publishers).