IB 303: Chapter 6. Governmental Influence on Trade

Terms in this set (18)

Countries with a large manufacturing base generally have higher per capita GDP than those that do not (ex: Japan and U.S.), because they have developed an industrial base while largely restricting imports.

They all operate under these assumptions:

1. Surplus workers can increase manufacturing output more easily than agricultural output.
2. Inflows of foreign investment in the industrial sector promote sustainable growth.
3. Prices and sales of agricultural products and raw materials fluctuate widely, which is a detriment to economies that depend heavily on just one or a few commodities.
4. Markets for industrial products grow faster than markets for commodities.
5. Industrial growth reduces imports and/or promotes exports.
6. Industrial activity helps the nation-building process.

1. Surplus workers:
* Industrialization argument: presumes that that the unregulated importation of lower-priced manufactures prevents the development of a domestic industry.
* Issues:
1) In rural areas, underemployed may lose the safety net of their extended families, and those who move to urban areas may not have enough housing, social services, or suitable jobs.
2) improved agriculture practices may be a better means of achieving economic success than a drastic shift to industry.

2. Investment Inflows:
* Import restrictions may also increase FDI, which provides capital, technology, and jobs.
* Import restrictions keep out foreign goods = foreign companies may invest to produce in the restricted area.

3. Diversification:
* fluctuation in prices of agricultural products due to uncontrollable factors such as the weather or changes in demand.
* ISSUE: a greater dependence on manufacturing good does not guarantee diversification of export earnings, since the population is small and the industrial shift will focus on one or two manufactured products, which face competitive risks and potential obsolescence.

4. Growth in manufactured goods:
* terms of trade: the quantity of imports that a given quantity of a country's exports can buy
* over time, it takes more low-priced primary products to buy the same amount of high-priced manufactured goods.
* demand for primary products grows more slowly due to:
1) producers must compete on price, whereas the prices of manufactured goods can stay high due to differentiation
2) as income rises, people spend more money on technologies instead of food

5. Import substitution and export-led development
- developing countries have promoted industrialization by restricting imports, but it becomes an ISSUE if it does become efficient.
- South Korea and Taiwan have achieved rapid economic growth by promoting the development of industries to distinguish between import substitution and export-led development.

6. Nation building
- strong relationship between industrialization and aspects of the nation-building process.
- industrialization helps build infrastructure, advance rural development, and boost workforce skills. (Ecuador and Vietnam: improved food security and export competitiveness)
Every nation wants to improve its relative position for economic welfare through four practices:

1. Balance-of-trade adjustments:
- a trade deficit causes problems for nations with low foreign exchange reserves (funds that finance the purchase of priority foreign goods and maintain the trustworthiness of a currency).
- government may act to reduce imports or encourage exports to balance its trade account. This can be done in two ways:
1) Depreciating or devaluing its currency, which makes it products relatively cheaper
2) Relying on fiscal and monetary policy to bring about lower price increases than those in other countries

2. Comparable access or "fairness"
- Comparable access argument: holds that companies and industries are entitled to the same access to foreign markets as foreign industries and companies have to theirs.
- Two practical reasons for rejecting the idea of fairness:
1) tit-for-tat market access can lead to restrictions that may deny lower prices to one's own consumers.
2) Governments would find it impractical to negotiate and monitor separate agreements for each of the many thousands of different products and services that might be traded.

3. Restrictions as a Bargaining Tool
- Countries levy trade restrictions to coerce other countries to change their policies.
- danger: each country may escalate its restrictions to create a trade war that has a negative impact on all their economies.
- to use restrictions successfully as a bargaining tool, you must consider two criteria:
1) Believability: you either have access to alternative sources for the product or your consumers can do without it.
2) Importance: exports of the product you're restricting are significant to certain parties in the producer country, significant enough to prompt changes.

4. Price-Control Objectives:
- Countries may withhold goods from international markets to raise prices abroad.
1) encourages smuggling and the development of technology or different means to produce the same product.
2) people will seek substitutes
- country may also limit exports to favor domestic consumers.
- favoring domestic consumers usually disfavors domestic producers of the product, so they have less incentive to maintain production when prices are low.
3) fear that foreign producers will price their exports so artificially low that they will drive producers out of business in the importing economy.
* Dumping: companies sometimes export below cost or below their home-country price.
- only disrupted if it disrupts domestic production; otherwise, country consumers can enjoy lower prices.
- may dump to introduce them and build a market abroad
- companies can afford to dump if they charge high prices in their home market or if their home-country government subsidizes them
* Optimum-tariff theory: states that a foreign producer will lower its prices if the importing country places a tax on its products.
- benefits importing country because the producer lowers its profits on the export sales and the importing country receives the tax.
- criticism: developing country exporters reduce payment to their workers rather than absorbing the full impact through a lower profit margin, causing severe hardships.
1. Subsidies
- Subsidies are a form of direct assistance to companies to boost competitiveness.
- Controversy: commercial aircraft.
(EU & Airbus Industrie: U.S. subsidize Boeing through R&D contracts for military aircraft that also have commercial applications and tax breaks to secure employment from Boeing's facilities.
U.S.: EU subsidizes Airbus through low-interest government loans.)

* Agricultural Subsidies:
- one area in which everyone agrees that subsidies exist is agricultural products in developed countries
- food supplies are too critical to be left to chance
- U.S. subsidies for cotton production disadvantages Brazilian production.
- In U.S., Japan and the EU, rural areas have a disproportionately high representation in government decision making. (internal politics)
- Effect: developing countries are disadvantaged in serving the developed countries with competitive agricultural products. Surplus is sold to developing countries at low prices, distorting trade and knocking out local competition.

* Overcoming market imperfections:
- business development services including market information, trade expositions, foreign contacts.
- more justifiable than tariffs because they seek to overcome, rather than create, market imperfections.
- gov. can spread the cost of collecting information among many users

2. Aid and Loans
- Tied aid or tied loans: recipient is required to spend the funds in the donor country; helps win contracts for infrastructure, telecommunications, railways, and electric power projects
- donor country suppliers

3. Customs valuation
- tariffs for imported merchandise depend on the product, price, and origin, which tempts exporters and importers to declare these wrongly on invoices to pay less duty.
- agents sometimes use their discretionary power to assess the value too high, thereby preventing the importation of foreign-made products such as occurred on Philippine cigarettes imported into Thailand.
* Valuation problems:
- new products are coming on the market all the time and must be classified within existing tariff categories
- easy to misclassify a product and its corresponding tariff
- classification of differences may result in millions of dollars in duties

4. Other Direct-Price Influences
- special fees (consular and customs clearance and documentation)
- requirements that customs deposits be placed in advance of shipment
- minimum price levels at which goods can be sold after they have customs clearance
1. Quotas
- the most common type of quantitative import or export restriction, limiting the quantity of a product that can be imported or exported in a given time frame, typically per year.

* Import quotas raise prices for two reasons:
1) To limit supply
2) to provide little incentive to use price competition to increase sales.

- companies sometimes convert the item into something for which there is no quota. ex: sugar into candy.

* Export quotas: assure domestic consumers a sufficient supply of goods at a low price, prevent depletion of natural resources, and attempt to raise export prices by restricting supply in foreign markets

* Voluntary Export Restraint: a country asks another county to voluntarily reduce its companies' exports to it.
- much easier to switch off than an import quota
- less damage to political relations than an import quota

* Embargoes: prohibits all trade
- used to achieve political goals
- U.S. imposed embargo on Cuba to induce the people to overthrow the communist regime.

2. "Buy Local" Legislation
- governments may specific a domestic content restriction: certain percentage of the product must be of local origin.
- U.S. recession-driven economic stimulus package of 2009 requires the funded project to us only U.S. made steel, iron, and manufactured goods.
- price mechanisms: permits agency to buy a foreign product only if it's some predetermined margin below the price of a domestic competitor.
- domestic purchase indirect favoritism: prohibiting foreign Medicare payments unless it's an emergency, preventing medical tourism.

3. Standards and Labels
- arbitrary standards of rejecting shipments citing health reasons

4. Specific permission requirements
- some countries require that potential importers or exporters secure governmental permission (an import or export license) before transacting trade
- restricting imports directly: denying permission
- indirectly: cost, time, and uncertainty involved
* foreign exchange control: requires an importer to apply to a government agency to secure the foreign currency to pay for the product.

5. Administrative delays
- intentional administrative delays or those caused by inefficiency
- create uncertainty and raise the cost of carrying inventory
- protect domestic producers but also political reasons: Japan and China fighting over ownership of island in the East China Sea.

6. Reciprocal requirements
- exporters must sometimes take merchandise or buy services in lieu of receiving cash payment
- common in the aerospace and defense industries
- Thailand has bought military equipment from China and Russia in exchange for dried fruit and frozen chickens
* Countertrade/offsets:
- governmental requirements in the importing country whereby the exporter, usually in sales to a foreign government, must provide additional economic benefits such as jobs or technology as part of the transaction.

7. Restrictions on Services
- service is the fastest growing sector in international trade
- countries consider four factors to decide whether to restrict service:
1) essentiality:
- do they serve strategic purposes or provide social assistance to citizens?
- do we feel that the services should be sold for profit?
- price controls or subsidize government-owned service organizations that create disincentives for foreign private participation.
- often excluded: media, communications, banking, utilities, and domestic transport. India has excluded multi-brand retailers because of the disruption they may cause to local retail establishments
2) not-for-profit services:
- few foreign firms compete in mail, education, and hospital health services.
3) standards: governments limit entry into many service professions to ensure practice by qualified personnel accountants, actuaries, architects, electricians, engineers, gemologists, hairstylists, lawyers, medical personnel, real estate brokers, and teachers.
4) immigration: governmental regulations often require an organization to search for locals before it can apply for work permits for personnel from abroad.
When companies face possible losses because of import competition, they have several options:

1. Move operations to another country
2. Concentrate on market niches that attract less international competition.
3. Adopt internal innovations, such as greater efficiency or superior products.
4. try to get governmental protection.

* Tactics for dealing with import competition:
- ask governments to restrict import markets or open export markets

* Convincing decision makers:
- governments cannot help every company
- convince officials that your situation warrants particular policies
- identify key decision makers and convince them by using the economic and noneconomic arguments
- convey to the public officials that voters and stakeholders support their position.

* Involving the industry and stakeholders
- odds of success increase with an ally domestic companies in the same industry
- involving taxpayers and merchants in the communities where it operates
- lobby decision makers and endorse the political candidates that are sympathetic to the situation.

* Preparing for changes in the competitive environment
- Those that depend on freer trade and/or have integrated their production and supply chains among countries tend to oppose protectionism
- those with single or multi-domestic production facilities, such as a plant in Japan to serve the Japanese market and a plant in Taiwan to serve the Taiwanese market, may support protectionism.
- companies have different self-perceptions of being able to compete against imports. At least one company in an industry may oppose protectionism, commanding competition competitive advantages in terms of scale economies, supplier relationships, or differentiated products.