politeconomyprotecti on

Political Economy of Trade Policy: 

Political Economy of Trade Policy ECON 758 Advanced International Economics Dr. Jeffery Heinrich

Agenda: 

Agenda Offer brief historical overview of trade policy Explain why trade protection emerges Describe and Critique common arguments for trade protection Explain how reciprocal concessions can result in lower trade barriers Describe the Multilateral Trading System and the World Trade Organization (WTO)

Historical Overview: 

Historical Overview Pre-18th C.  Relatively little trade. High transaction & transport costs, no EOS. Late 18th, 19th C.  Industrial Revolution, Free trade in Britain & few other European countries. U.S. tariffs avg. 40%. Trade growth exceeds production growth. Early 20th C.  First Wave of Globalization, and backlash. Interwar Period  Declining incomes and Employment “Beggar thy Neighbor”  competitive devaluations; Smoot-Hawley Tariff Act 1930 (60% avg. tariff, + foreign retaliation) World Vol. Trade 1933 = 1/3 1930 level

Historical Overview, cont.: 

U.S. Reciprocal Trade Agreements Act 1934 Post-War International Economic Institutions International Bank of Reconstruction and Development (World Bank) International Monetary Fund International Trade Organization & General Agreement on Tariffs and Trade (GATT) 1995  GATT gives way to WTO Historical Overview, cont.

Why Protection?: 

Why Protection? Trade barriers make country worse off – why use them? Transfer from consumers & downstream producers to protected industry Public Ignorance protection  price of foreign and domestic goods with no obvious tax. basis for gains from trade poorly understood. rhetoric ignores transfer of welfare, emphasizes “job protection” and “unfair” foreign trade practices. sympathy for displaced resources

Why Protection? (cont.): 

Why Protection? (cont.) Numbers Not Balanced Increase in price of importable due to protection of less consequence to individual consumers than individual producers Benefits of protection heavily concentrated, costs thinly spread Protected industries benefit substantially! Political Bias towards Protection Producers lobby harder for protection than others lobby for free trade – protection for sale? Politician can be blamed for dislocation costs, but cannot as easily claim credit for gains from trade. Appeal of mercantilist logic. Easier to “conceal” transfer from consumers to producers. Unilateral Trade Liberalization Unlikely!

Arguments for Protection (1): 

Arguments for Protection (1) Domestic production as a Public Good Economy gains from domestic production of certain goods  technology spillovers; preservation of culture; simple desire to “buy American.” Few “American” products without imported inputs. Is trade protection best policy? Violates Specificity rule! Specificity Rule: Use policy instrument that most specifically addresses perceived market shortcoming. Direct Subsidy to domestic production incurs production deadweight loss, but avoids the loss to consumption that comes from protection.

Arguments for Protection (2): 

Arguments for Protection (2) Loss of Domestic Jobs Argument: imports mean less domestic production and fewer domestic jobs, or labor relocation from “good” jobs to low-pay service jobs. Again, runs afoul of Specificity Rule Very high costs per job saved via trade barriers. Preferred policy: employment subsidy, retraining. Ignores job losses in import-using downstream industries. Pay differential manufacturing vs. service overstated. Greatest problem for low-skilled workers.

Arguments for Protection (3): 

“Unfair” Trade based on cheap foreign labor. Argument: Very low foreign wages and labor standards puts domestic production at unfair disadvantage. Ignores Comparative Advantage! Wages usually reflect productivity! Low wages does not necessarily mean low unit labor costs. “Immoral” foreign labor standards? Trade responsible for “wage gap.” Argument: Real wage of unskilled workers no higher than in 1970 due to unfair trade. Lower demand for unskilled workers due to technological change; supply has not fallen as quickly  problem with educational system? Arguments for Protection (3)

Arguments for Protection (4): 

Protection to Reduce Trade Deficit Deficits due to Macroeconomic imbalance  national saving < national investment. Direct effect of protection is lower imports, but also appreciates currency  exports fall, imports rise  no reduction in trade deficit! Protection as Bargaining Device Trade barriers as bargaining chip in trade negotiations. Gains from unilateral liberalization More threats, but how much trade liberalization? National Defense Domestic production essential to provide war materials. Overstate exposure to aggressor disruption of supplies? Would sufficient domestic capacity exist during peacetime? Arguments for Protection (4)

Arguments for Protection (5): 

Infant Industry Argument Argument: Temporary protection to allow for new industries to grow & overcome inefficiency of “infant” period. How to pick winners? Incentive for protected firm to “grow up?” Some success when firms forced to compete in export markets. Protection difficult to remove once granted. Those paying costs of protection rarely benefit. Would not market finance temporary losses if long-term profits expected, e.g., Amazon.com? If capital market broken, why not fix that? Subsidy better than protection, but has very different impact on government budget. Arguments for Protection (5)

Trade Liberalization: 

Trade Liberalization How to overcome Protectionist Bias?  Need to counterweight protectionist lobby! Exporters: benefit from foreign trade liberalization.  Trade market access privileges with foreign countries! Gain from exporter access to foreign markets  exporter lobby offsets protectionist lobby. Reciprocal trade liberalization possible where unilateral liberalization is less so!

Multilateral Trading System: 

Multilateral Trading System Cooperation essential to trade liberalization. disaster of interwar “beggar-thy-neighbor” policies. unilateral liberalization quick, no negotiation costs, but politically difficult. Previous efforts at Multilateral Trade Liberalization. International Trade Organization (stillborn). GATT – prelude to ITO, then foundation of trading system. Several “Rounds” of Liberalization – first few on tariff reductions, admitting new members; many quotas eliminated. Kennedy 1964-67: cut tariffs on manufactures; Generalized System of Preferences; include first Non-Tariff Barriers (NTBs); Anti-Dumping Rules Tokyo 1974-79: more tariff cuts; Codes of Conduct on subsidies, govt. procurement, customs; Escape Clauses Uruguay 1986-94: include TRIPS, Services, NTBs; include agriculture and textiles; establish WTO

World Trade Organization: 

World Trade Organization WTO is Code of Conduct in Trade Policy Market for Reciprocal Exchange of Concessions Dispute Resolution Mechanism Principles of the Multilateral Trading System (Applies to Goods) Non-Discrimination Most-Favored Nation (MFN) Status to all Members: treat members no worse than any other member. National Treatment: treat imports no worse than domestic goods once inside border. Reciprocity Mutual, reciprocal, equivalent trade concessions. Negotiated reductions in trade barriers. Limits free riding; overcomes Protectionist Bias.

World Trade Organization: 

Principles of Multilateral Trading System, cont. Market Access Bound maximums for tariff rates. Disciplines: Limits on actions that nullify or impair concessions. Transparency Fair Competition Safeguards & Excessive Injury provisions Countervailing and Anti-Dumping duties provided for. Decision by Consensus Controversy! ‘trade über alles”; confounds democracy; overrides domestic laws; destroys local culture; ruins environment Countries cannot discriminate based on production method! World Trade Organization