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Module 4

Objectives of the module

• Tariffs
• Subsidies
• Local content requirements,
• Administrative Policies
• Anti-dumping policies
• Political and economic argument for
intervention
• Classical Theories supporting Free
trade

• Government intervention due to
political interests
Trade policy uses seven main instruments

– Tariffs
– Subsidies
– Import Quotas
– Voluntary export restraints
– Local content requirements
– Administrative policies
– Antidumping duties
TARIFFS
• A tax levied on imports

• Two categories
– Specific tariff & Ad valorem tariffs

• Specific Tariffs
– are levied as a fixed charge for each unit of a good
imported

• Ad valorem tariffs
– are levied as a proportion of the value of the imported
good
• A tariff raises the cost of imported products.

• In most cases tariffs are put in place to protect
domestic producers from foreign

• They also raise revenues for the government
• Domestic producers gain, because the tariffs
affords them some protection against foreign
competitors by increasing the costs of imported
goods
• Consumer may lose because they must pay more
for certain imports
Conclusion

• Tariffs are unambiguously pro-
producer and anti-consumer

• Tariffs reduce the overall efficiency
of the world economy
Subsidies

• A Subsidy is a government payment
to a domestic producer
• Forms of Subsidy
– Cash grants
– Low interest loans
– Tax-breaks
– Government equity participation
Issues with Subsidies
• Subsidies tend to protect the inefficient
and promote excess production

• E.g., Agriculture subsidies
– Allow inefficient farmers to stay in business
– Encourage countries to overproduce the
subsidized product
– Encourage countries to produce products that
could be grown more cheaply elsewhere and
imported
– Therefore, reduce international trade in
agriculture
Import Quotas

• An import Quota is a direct
restriction on the quantity of some
good that may be imported into a
country

• This restriction is enforced by issuing
import license to a group of
individuals or firms
Voluntary Export Restraint

• A quota on trade imposed by the
exporting country, typically at the
request of the importing country’s
government.

• The extra profit that producers make
when supply is artificially limited by
an import quota is referred to as a
quota rent.
Local content requirements

• A requirement that some fraction of a
good can be produced domestically

• This requirement can be expressed in
terms either in physical terms (75% of
component parts should be produced
locally) or in value terms (75% of the value
of this product must be produced locally )
Administrative Policies

• Bureaucratic rules that are designed
to make it difficult for imports to
enter a country
Anti-dumping policies
• Dumping is defined as selling the goods in
a foreign market at below their costs of
production or below fair market value

• Anti-dumping policies are designed to
punish foreign firms that engage in
dumping

• The objective is to protect domestic
producers from the unfair foreign
competition
Government Intervention
• Political reasons
• Economic reasons
Political Arguments for
government Intervention
• Protecting jobs and industries
• National Security
• Retaliation
• Protecting customers
• Furthering foreign policy objectives
• Protecting human rights
National Security
• Strategic industries are run by the
government
• Defense, aerospace, electronics, semi-
conductors, posts, railways
• Indian government exclusively reserved
eight industries for public sector operation
from the national security point of view
Protecting Industries
• From foreign competition
• Most of the sick small scale units have
become mortal
• The small & medium enterprises have
become sick after the entry of foreign
industries
• Cheap products from China & east asian
countries
Protecting Jobs
• Economic liberalization lead to closure of
many small industries
• Downsizing of large industries
• Outsourcing of employees
• Privatization of public sectors
• All this reduced the number of jobs
Retaliation
• Foreign business need to be dealt with
tough approach
• Only governments can deal in such a
manner
• Otherwise, the foreign business control
the domestic business firms
Economic Arguments for
intervention

• The Infant industry argument
• Strategic Trade Policy
Infant Industry Argument
• When the industry is in the infant stage, it
needs protection from the foreign
competition
• Private industrialists cannot invest heavily
during infant stage
• Govt. should interfere in business to
provide capital and infrastructural facilities
Strategic Trade Policy
• In the form of subsidies