Trade Protectionism in International Business

Trade Protectionism is the economic policy of restraining trade between nations, through methods such as high tariffs on imported goods, restrictive quotas, and anti-dumping laws in an attempt to protect domestic industries in a particular nation from foreign take-over or competition. This contrasts with free trade, where no artificial barriers to entry are instituted.

Trade Protectionism

Trade Protectionism has frequently been associated with economic theories such as mercantilism, the belief that it is beneficial to maintain a positive trade balance, and import substitution. There are two main variants of trade protectionism, depending on whether the tariff is intended to be collected (traditional protectionism) or not (modern protectionism).

  1. Modern protectionism: In the modern trade arena many other initiatives besides tariffs have been called protectionist. For example some economists see developed countries’ efforts in imposing their own labor or environmental standards as protectionism. Also, the imposition of restrictive certification procedures on imports are seen in this light. Recent examples of protectionism are typically motivated by the desire to protect the livelihoods of individuals in politically important domestic industries. Whereas formerly blue-collar jobs were being lost to foreign competition, in recent years there has been a renewed discussion of protectionism due to offshore outsourcing and the loss of white-collar jobs. Most economists view this form of protectionism as a disguised transfer payment from consumers (who pay higher prices for food or other protected goods) to local high-cost producers.
  2. Traditional Protectionism: In its historic sense, protectionism is the economic policy of relying on revenue tariffs for government funding in order to reduce or eliminate taxation on domestic industries and labor (e.g., corporate and personal income taxes). In protectionist theory, emphasis is placed on reducing taxation on domestic labor and savings at a cost of higher tariffs on foreign products. This contrasts with the free trade model, in which first emphasis is placed on exempting foreign products from taxation, with the lost revenue to be compensated domestically. Traditional protectionism sees revenue tariffs as a source of government funding, much like a sales tax, that can be used to reduce other domestic forms of taxes. The goal of traditional protectionism is to maximize tax revenue from the purchase of foreign products with the goal of being able to reduce or eliminate other forms of domestic taxation (income taxes, sales taxes, etc.) as a result. Tariffs were the predominant source of tax revenue in the United States from its founding through World War II, allowing the country to operate through most of that period without income and sales taxes. Traditional trade protectionism remains highly dependent on large amounts of imports. It also requires tariffs to be kept at reasonable rates to ensure maximum government revenue.

Protectionism refers to policies or doctrines which “protect” businesses and living wages by restricting or regulating trade between foreign nations:

1. Dumping

A practice of charging a very low price in a foreign market for such economic purposes as putting rival suppliers out of business. If a company exports a product at a price lower than the price it normally charges on its own home market, it is said to be “dumping” the product.

Is this unfair competition? The WTO agreement does not pass judgement. Its focus is on how governments can or cannot react to dumping – it disciplines antidumping actions, and it is often called the “Anti-dumping Agreement”.

2. Subsidies

In economics, a subsidy is generally a monetary grant given by government to lower the price faced by producers or consumers of a good, generally because it is considered to be in the public interest. Subsidies are also referred to as corporate welfare by those who oppose their use. The term subsidy may also refer to assistance granted by others, such as individuals or non-government institutions, although this is more usually described as charity. A subsidy normally exemplifies the opposite of a tax, but can also be given using a reduction of the tax burden. These kinds of subsidies are generally called tax expenditures or tax breaks.

Subsidies protect the consumer from paying the full price of the good consumed, however they also prevent the consumer from receiving the full value of the thing not consumed – in that sense, a subsidized society is a consumption society because it unfairly encourages consumption more than conservation. Under free-market conditions, consumers would make choices which optimize the value of their transactions; where it was less expensive to conserve, they would conserve. In a subsidized economy however, consumers are denied the benefit of conservation and as a result, subsidized goods have an artificially higher value than expenditures which do not consume. Subsidies are paid for by taxation which creates a dead-weight loss for that activity which is taxed.

3. Countervailing Duties

Means to restrict international trade in cases where imports are subsidized by a foreign country and hurt domestic producers. According to WTO rules, a country can launch its own investigation and decide to charge extra duties. Since countries can rule domestically whether domestic industries are in danger and whether foreign countries subsidize the products, the institutional process surrounding the investigation and determinations has significant impacts beyond the countervailing duties.

4. Tariffs and Quotas

A tariff is a tax on imported goods. When a ship arrives in port a customs officer inspects the contents and charges a tax according to the tariff formula. Since the goods cannot be landed until the tax is paid it is the easiest tax to collect, and the cost of collection is small. Smugglers of course seek to evade the tariff.

An ad valorem tax is a percentage of the value of the item, say 10 cents on the dollar, while a specific tariff is so-much per weight, say $5 per ton. A “revenue tariff” is a set of rates designed primarily to raise money for the government. A tariff on coffee imports, for example (by a country that does not grow coffee) raises a steady flow of revenue. A “protective tariff” is intended to artificially inflate prices of imports and “protect” domestic industries from foreign competition For example, a 50% tax on a machine that importers formerly sold for $100 and now sell for $150. Without a tariff the local manufacturers could only charge $100 for the same machine; now they can charge $149 and make the sale. A prohibitive tariff is one so high that no one imports any of that item.

The distinction between protective and revenue tariffs is subtle: protective tariffs in addition to protecting local producers also raise revenue; revenue tariffs produce revenue but they also offer some protection to local producers. (A pure revenue tariff is a tax on goods not produced in the country, like coffee perhaps.) Tax, tariff and trade rules in modern times are usually set together because of their common impact on industrial policy, investment policy, and agricultural
policy. There are two main ways of implementing a tariff:

  1. Ad valorem tariff: Fixed percentage of the value of the good that is being imported. Sometimes these are problematic as when the international price of a good falls, so does the tariff, and domestic industries become more vulnerable to competition. Conversely when the price of a good rises on the international market so does the tariff, but a country is often less interested in protection when the price is higher. They also face the problem of transfer pricing where a company declares a value for goods being traded which differs from the market price, aimed at reducing overall taxes due.
  2. Specific tariff: Tariff of a specific amount of money that does not vary with the price of the good. These tariffs may be harder to decide the amount at which to set them, and they may need to be updated due to changes in the market or inflation. Adherents of supply-side economics sometimes refer to domestic taxes, such as income taxes, as being a “tariff” affecting inter-household trade.

A Quota is a prescribed number or share of something. In common language, especially in business, a quota is a time-measured goal for production or achievement. An assembly line worker might have a quota for the number of products made; a salesperson might have a quota to meet for weekly sales. In trade, a quota is a form of protectionism used to restrict the import of something to a specific quantity. The number of cars imported from Japan may have a quota of 50,000 vehicles per annum to protect auto manufacturers in the United States IMF member’s quota is broadly determined by its economic position relative to other members. Various economic factors are considered in determining changes in quotas, including GDP, current account transactions, and official reserves. When a country joins the IMF, it is assigned an initial quota in the same range as the quotas of existing members considered by the IMF to be broadly comparable in economic size and characteristics. Quotas are denominated in Special Drawing Rights, the IMF’s unit of account.

5. VERs (Voluntary Export Restraints)

A voluntary export restraint is a restriction set by a government on the quantity of goods that can be exported out of a country during a specified period of time. Often the word voluntary is placed in quotes because these restraints are typically implemented upon the insistence of the importing nations. Typically VERs arise when the import-competing industries seek protection from a surge of imports from particular exporting countries. VERs are then offered by the exporter to appease the importing country and to avoid the effects of possible trade restraints on the part of the importer. Thus VERs are rarely completely voluntary. Also, VERs are typically implemented on a bilateral basis, that is, on exports from one exporter to one importing country. VERs have been used since the 1930s at least, and have been applied to products ranging from textiles and footwear to steel, machine tools and automobiles. They became a popular form of protection during the 1980s, perhaps in part because they did not violate countries’ agreements under the GATT. As a result of the Uruguay round of the GATT, completed in 1994, WTO members agreed not to implement any new VERs and to phase out any existing VERs over a four year period. Exceptions can be granted for one sector in each importing country.

6. Customs Valuation

The rates of customs duties leviable on imported goods (& export items in certain cases) are either specific or on ad valorem basis or at times specific cum ad valorem. When customs duties are levied at ad valorem rates, i.e., depending upon its value, it becomes essential to lay down in the law itself the broad guidelines for such valuation to avoid arbitrariness and to ensure that there is uniformity in approach at different customs formations.

7. Trade Sanctions

Trade sanctions are trade penalties imposed by one or more countries on one or more other countries. Typically the sanctions take the form of import tariffs(duties), licensing schemes or other administrative hurdles. They tend to arise in the context of an unresolved trade or policy dispute, such as a disagreement about the fairness of some policy affecting international trade (imports or exports).  For example, one country may conclude that another is unfairly subsidizing exports of one or more products, or unfairly protecting some sector from competition (from imported goods or services). The first country may retaliate by imposing import duties, or some other sanction, on goods or services from the second.

Credit: International Business-CU

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